What is Accounting?

What is Accounting?

As a learner just beginning the study of accounting, you would naturally like to know exactly what accounting is.  There is no simple definition.  Accounting is a system of dealing with financial information that provides information for decision making.

There are five main activities involved in accounting.  These are:

1. Gathering financial information about the activities of a business or other organization
2. Preparing and collecting permanent records.  Records provide evidence of purchase, proof of payment, details of payroll, and so on.  They also serve as the basis for dealings with other companies;
3. Rearranging, summarizing, and classifying financial information into a more useable form;
4. Preparing information reports and summaries for the following purposes:
1. To help management reach decisions
2. To serve the needs of groups outside the business, such as bankers and investors
3. To measure the profitability of the business
5. Establishing controls to promote accuracy and honesty among employees.  As businesses grow, owners can no longer look after everything alone.  They have to hire others to help them.  As soon as employees are hired, accounting controls become essential.

Accounting – An Information System

By enabling financial information to be gathered and prepared, a good accounting system provides the answers to many questions.  For example, owners and managers might seek answers to questions such as the following:

• Is the business earning enough profit?
• Are the selling prices of the products high enough?
• How much does company ABC owe the business?
• How much does the business owe company XYZ?
• What is the value of all goods for sale?
• Do any of the goods for sale need to be restocked?
• To whom was cheque number 502 issued?
• How much did John Smith earn last year?

Other persons, companies, or organizations might seek answers to the following questions:

• Should I lend money to the business? (banker)
• Should I buy into the business? (investor)
• Should I sell the business? (owner)
• Can the business afford to pay more to its employees? (union)

Why Study Accounting?

A knowledge of accounting can be very useful to a learner in several ways.

Account on the Job

Those of you who decide to enter the business world will find employment more easily if  you have a background in accounting.  A large number of jobs require accounting and clerical skills.  The higher levels require more training and experience but they also offer higher salaries.

Accounting in Daily Life

A working knowledge of accounting is an advantage in daily life.  An accounting background will help you with the language of business as well as accounting concepts.  You will be better able to handle your personal business affairs, such as preparing a personal budget, keeping personal financial records, and preparing your income tax return.  With an improved grasp of financial matters, you will be in a better position to take advantage of business opportunities or to understand the operation of the organization where you work.

Owning Your Own Business

Many people want to town their own business.  In fact, small business is the fastest growing segment of our economy.  If you achieve this goal, you will soon find yourself faced with accounting tasks such as:

• Banking
• Keeping track of the amounts owed by customers
• Keeping accounting records for the government
• Producing an income statement for income tax purposes
• Possibly preparing payrolls and making payroll deductions

Clearly, a knowledge of accounting is helpful in small business.  If a business is to be successful, the owner must be able to make sound management decisions based on good financial records.

Accounting as a Profession

Some of you may choose accounting as a profession.  This requires several years of serious study and practice.  By completing the requirements of one of the three professional organizations of accountants in Canada, you can become a Chartered Accountant (CA), a Certified General Accountant (CGA), or a Certified Management Accountant (CMA).  Qualified professional accountants have the right to practice as public accountants.

A public accountant serves the general public for a fee in the same way as a doctor or lawyer does.  The main type of work done by public accountants is auditing.  Auditing is the examination and testing of the books, records, and procedures of a business in order to be able to express an opinion about its financial statements.  Public accountants also work as management consultants and tax advisors.

Professional accountants may choose industrial on institutional accounting rather than public accounting.  Industrial accountants work for large companies such as IBM or Stelco.  Institutional accountants work for the government, banks, large insurance companies, and similar organizations.  Many of the senior management positions require one or more of the accounting designations (CA, CMA, CGA) as a qualification.  

Complexity of Business

There are many laws laid down by the government concerning fair business practices, income taxes, and so on.  However, the laws have become so numerous and complex that only experts can fully understand them.  Fully qualified accountants know these laws, so business owners, managers, and professionals (such as dentists, lawyers, etc) often seek their advice.  The increasing complexity of government regulations is a major reason why accounting is such an important profession.

Characteristics of Business

Types of Business

Businesses are the economic framework upon which our society is built.  But, what is a business?  Generally, a business involves the manufacture and or sale of goods or services in order to earn a profit.  Most businesses fall within one of the following four main categories:

The Service Business

A services business sells a service to the public;  it does not make or sell a products as its main activity.  To picture a service business, think of a hairdressing salon, tutoring service, or a dental clinic.  

The Merchandising Business

A merchandising business buys goods and resells them at a higher price for a profit.  To picture a merchandising business, think of a clothing store, a music store, or a supermarket.  (It is possible for a service business to sell some products)

The Manufacturing or Producing Business

A manufacturing business buys raw materials, converts them into a new product, and sells these products to earn a profit.  To picture a manufacturing business, think of a construction company, a paper mill, or a steel plant.  Another type of business, closely related to manufacturing, is the producing business.  A farm, for example, produces milk, grain, and other foods.  Other activities of producing businesses include oil extraction, mining, forestry, hunting, and fishing.  

The Non-Profit Organization

A non-profit organization may carry on activities to meet social needs and not for a financial profit.  To picture these organizations, think of a church, a Rotary Club, a Cancer Society or a Recreational Sports Team.  Such organizations hope that their work will provide a social benefit.  They are required to keep accounting records, especially if they receive funds or a tax-deductible status from the government.  

Forms of Business Ownership

There are three main forms of business ownership.  If you take a walk down any commercial street, you can see examples of each one.

1. You might notice a sign that reads “J. Wok, Carpenter.”  This sign indicates that J. Wok is in business for himself.  He may work alone or others may work for him.  This type of business is known as a sole proprietorship.  There is only one owner.  

2. You might come across a sign that reads “Fogle, Silver, and Zimmerman, Accountants.”  This sign suggests that there are three people that share ownership.  A business that has two or more owners, is classified as a partnership.

3. You might find a sign that reads “Red River Homes Limited.”  This sign tells you that the business is a limited company or a corporation.  A limited company or corporation is a special form of business that is owned by shareholders.  

Most of the businesses we study in this course are sole proprietorships

The Nature of Accounting

The accounting department of a business includes a wide variety of functions.  In a small business, one or two people may do all of the necessary accounting work.  In a large business, the accounting work may be divided into several departments, each of which may have many people working in it.  

Categories of Accounting Work

Accounting work can be divided into three categories:

1. Routine Daily Activities

These activities occur in the same way nearly every day of the year.  They include processing bills, preparing cheques, daily banking, transactions, preparing business papers and so on.

2. Periodic Accounting Activities

These activities occur at regular intervals.  Pay cheques are prepared every week or two.  The bank accounts may be checked monthly.  The financial reports are prepared each month and at year end.

3. Miscellaneous Activities

Some accounting activities cannot be predicted.  For example, if an accounting employee resigns, the position must be filled quickly.  An advertisement is prepared, interviews are conducted, and a selection is made.  Or a bank manager may call expressing concern over the size of the bank loan, and a visit to the bank to discuss the matter may become necessary.  A salesperson may call about a new machine that she claims will reduce office costs.  Time may be taken to see a demonstration of the equipment.  In addition, professional accountants take part in meetings and activities put on by their associations.  

The Accounting Cycle

Accounting is thought of as occurring in cycles.  Accounting activities are preformed in relation to equal periods of time known as fiscal periods.  The usual length for a fiscal period is one year.  The accounting cycle can be thought of as the recurring set of accounting procedures carried out during each fiscal period.  These accounting activities are carried out repeatedly, period after period.  

The accounting cycle really consists of two separate cycles, the inner ring and the outer ring.  Some of the activities in the outer ring occur everyday.  Others occur once a month.  If a computer accounting package is used, steps 2, 3 and 4 are automated and will occur virtually at the same time  The activities in the inner ring normally occur once a year and are based on the data provided by the activities of the outer ring.  

It must be understood, however, that each cycle is built upon the cumulative results of previous cycles.  The business does not have a fresh start each fiscal period.  

Listed below are the steps in the accounting cycle:

Outer Ring

1. Transactions occur
2. transactions recorded in journal
3. journal entries posted to the ledger accounts
4. trial balance and interim financial statements prepared

Inner Ring

5. Work sheet prepared
6. formal financial statements prepared
7. ledger accounts adjusted and closed
8. post closing trial balance prepared

Becoming a Professional Accountant

A great many accounting jobs exist in our society.  Some are entry level positions with small firms and require only basic accounting skills.  Others are high level positions requiring exceptional competence and training.  Between these two extremes, there lies a vast range of accounting occupations in business.  Filling these positions are many persons with different backgrounds and abilities.  Some may have little or no formal training.  Other may have studied at an advanced level for a number of years.  

Accountants get their formal training in high school, at college or university, or from a professional organization.  In addition to formal studies in accounting, on the job experience is important.  You are not really prepared to do professional accountancy until you have practical experience along with your formal training.  

Most colleges and universities offer diplomas or degree courses in business.  The study of accounting is included as part of the curricula of these courses.

Professional Accounting Organizations

To be a fully qualified accountant, you must complete the course prescribed by one of the three national professional accounting organizations:

Certified General Accountants Association

Members’ professional designation:  CGA – www.cga-canada.org

Canadian Institute of Chartered Accountants (CICA)

Members’ professional designation:  CA – www.cica.ca

Society of Management Accountants of Canada

Members’ professional designation:  CMA – www.cma-canada.org

Training To Be a Professional Accountant

To qualify as a professional accountant, you will need further education after secondary school.  You should carefully examine the course requirements of each of the three accounting organizations before you enroll.  Each organization has its own requirements, which are outlined at their websites.  Regardless of which organization you choose, plan on at least six years of post-secondary study and work.  This is because the CGA, CMA, and CA organizations generally require their applicants to acquire a university degree and to complete 2 to 2.5 years of specialized courses and work experience.  (A few non-degree routes to professional accounting designations exist, so interested applicants should use the Internet as a starting point in order to stay informed.)

The CGA program includes a wide range of finance and accounting courses.  Learner can tailor their careers by following one of four options:  corporations/small-medium enterprise; information technology; government/non-profit, or public practice.  The CGA association is well known for its distance education, which allows learners to remain employed while they study to earn course credits towards a CGA designation.  

The Society of Management Accountants place their emphasis on management accounting and most of their graduates take management positions in business and industry, rather than in public practice.  CMAs are regarded as experts in cost accounting and industrial accounting.  

The CA's represent the longest-standing body in the profession.  The Canadian Institute of Chartered Accountants is highly regarded, due in part to its publication of the CICA Handbook:  The CICA Handbook sets accounting rules and standards and is accepted by the other accounting organizations.  To enroll as a CA, you must be admitted to a university in a specific program prescribed by the Institute.  

The practical experience for CA students is 30 months long and must be completed at an office that has received training designation from CICA.  At the end of the program, students must pass CICA’s Uniform Final Exam (UFE), which is a demanding four-day national exam.  Once qualified, CA’s are especially will prepared to become auditors, however, they may choose careers in any area of accounting.

Roles of Accounting

Many people confuse accounting and bookkeeping.  Accounting and bookkeeping are different, although each is essential to the successful operation of a business.  The terms bookkeeper and accounting clerk describe the same job, but accounting clerk is becoming the more popular designation.

The Accounting Clerk

The work of an accounting clerk is clerical in nature and for the most part it is concerned with routine matters.  Some of the jobs of an accounting clerk are:

1. ensuring that transactions are properly recorded and that the necessary supporting documents are present and correct
2. recording the accounting entries in the books of account and balancing the ledger as necessary
3. making the payroll calculations and preparing the payroll cheques and other payroll records
4. carrying out all necessary transactions

The Accountant

The work of an accountant, on the other hand, is broader in scope and requires more education and experience.  A professional accountant is actually responsible for maintaining the entire accounting system.  Some of the things include:

1. developing a system to ensure that correct data is entered into the accounting system
2. ensuring that generally accepted accounting standards are met
3. interpreting the data produced by the accounting system
4. preparing reports based on the data output from the system
5. participating in management meeting and assisting in making business decisions
6. supervising the work of all accounting employees

How Accountants Use Computers

Computers are ideal for use in an accounting environment.  Some of the number crunching activities that computers do very well are recording, sorting, calculating, summarizing, storing, displaying, and printing.  Accountants who work effectively with computers are better able to meet the demands of their careers.

All three national accounting organizations recognize the impact technology has on the profession.  For example, students in the CGA program acquire hands-on computer experience beginning in the first year.  Course content is delivered on a CD-ROM with a direct link to CGA websites.  To help students gain the required computer knowledge, the association offers three computer tutorials covering spreadsheets, accounting software and Windows applications.

Since different businesses use different programs, accounting students must have exposure to a wide variety of computer software.  Not only will such exposure make tem more employable for clerical positions, but it will also better enable them to perform auditing and consulting functions in the future.  Fortunately, once a student learns a few accounting and spreadsheet programs, new ones are mastered quite easily.  

While computers are important, it should be stressed that they are merely tools for accountants.  They do not make accounting skills unnecessary.  For example, read the following job advertisement for a senior cost accountant in a manufacturing firm:

The senior cost accountant prepares forecasts, assists in the preparation of annual and long term plans, and undertakes special studies on request.  Specific duties include the maintenance of our product costing system and the analysis of our monthly results.

Applicants must have superior analytical and problem solving skills.  Communication skills are also essential.  Accounting experience in a manufacturing environment and familiarity with the use of computers are key for candidates for this position.

Notice that the important qualifications in this advertisement are listed first (superior analytical and problem solving skills).  The ability to effectively communicate the results of analyses and problem solving is also an essential requirement.

As you study accounting, keep in mind that developing computer skills along with financial analysis, problem solving, and communication skills will qualify you for a wide variety of career options.