There are two categories of accounts, commonly known as financial accounting and management accounting. Financial accounting is normally aimed for external users like shareholders and banks. While management accounting is addressed to management. Due to the complexity of decisions taken by management, financial reports under management accounting are normally more detailed than those targeted for external users. In addition, the structure of the firm holds certain regulations aimed for external users.
For instance, if it is a limited company, management is obliged under the Companies Act to provide a set of audited public financial statements to external users. If the organization encompasses a sole practitioner, then a profit and loss account for taxation purposes will suffice. This report is aimed for the manager of the business enterprise and therefore we will concentrate on management accounting information. Management Accounting Information The set of final accounts that Don Jones should prepare at the end of each accounting period are an Income Statement, a Balance Sheet and a Cash Flows Statement.
The financial information pertaining in such documents together with their relevance for managerial decisions are illustrated in the proceeding sections. Income Statement The Income statement, which basically highlights the profitability of the organization, is mainly divided between income and expenditure. The income comprises revenue derived from the services provided by the firm, while expenditure entails costs incurred in the day-to-day operations of the enterprise. The costs are further divided into two, being direct costs and overheads.
The direct costs are deducted from the sales revenue to derive the gross profit/loss, while the overheads are reduced/added from/to the gross profit/loss to determine the net income/loss. At this stage it is imperative that a distinction is made between the profits of the firm and the cash flow of the organization. The net income made does not represent the increase in cash flow. In the income statement we are working under the accruals concept. Such principle states that revenue incurred in a period is matched with expenditure incurred in that time frame.
Since it is specifying revenue/expenditure incurred this implies that even credit sales and credit purchases are included in the revenue and expenses of the company. Profitability is an important aspect that Don Jones should meticulously consider. Under this area management see how efficient are the operations of the company in terms of selling price charged and costs incurred. In today’s highly competitive business environment efficiency is a must to ensure that a competitive price is charged and a reasonable profit is made.
Such information is attained under the aforesaid Income Statement, which will help Don Jones deciding on issues like cost control. Balance Sheet The Balance Sheet is a statement, which highlights the balances of assets, liabilities and capital at a particular date. A balance sheet is conducted under the principle that the resources of the organization are either financed by external debts (liabilities) or by the owner’s investment together with the profits made. These variables are thus highlighted in the Balance Sheet.
The liquidity and financial stability of the business enterprise are determined by examining the Balance Sheet. Don Jones should analyze such statement in order to see how effectively is the working capital of the firm managed. This is of particular concern to the case at hand, since the business is booming, there is a high risk of over-trading leading to liquidity problems. In addition, the financial stability of the company can be considered by looking at the portion of debts in relation to the total capital of the firm.
Management should keep in mind that the higher the long-term debts the greater the financial commitments and the lower the financial stability. Therefore an appropriate balance should be kept on debt and capital by examining the balance sheet. Cash Flow Statement The last but not least financial report is the Cash Flow Statement. As its name implies, this focuses on the cash flow of the organization. A cash flow statement is normally divided into three areas, being: Operating Activities, Investing Activities and Financing Activities.
In these three sections, the cash generated/used in operating, investing and financing activities is examined. Cash is the lifeblood of the firm and therefore Don Jones should make sure that sufficient cash is available to meet the financial obligations. A company with cash flow problems can perish in a couple of months. Further more, the cash flow statement is a useful tool that highlights how cash is being managed. It is very important that a business enterprise ensures that neither cash shortage nor cash overflow leading to idle resources occurs.
Therefore by considering the cash flow statement Don Jones can see and plan how to effectively use such cash resource. References: Lewis R. ; Pendrill D. (1996). Advanced Financial Accounting. Fifth Edition. Washington: Pitman Publishing. Randall H. (1999). A Level Accounting. Third Edition. Great Britain: Ashford Colour Press Ltd. Weetman P. (2003). Financial and Management Accounting. Third Edition. Essex: Pearson Education Limited.
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