Wednesday, July 18, 2007

Accounting Basics: Accounting and The Accounting Cycle

What is accounting? My old accounting text book defines it as: "the process of identifying, measuring, and communicating economic information to permit informed judgments and decisions by the users of the information." The text distinguishes between accounting and bookkeeping. Whereas bookkeeping involves the mechanical process of recording economic activities, accounting expands on that to include analysis and interpretation of financial information as well as preparing financial statements, conducting audits, designing accounting systems, etc.

Since this is a web based forum, lets look at Wikipedia's definition: the measurement, disclosure or provision of assurance about financial information primarily used by managers, investors, tax authorities and other decision makers to make resource allocation decisions within companies, organizations, and public agencies. The terms derive from the use of financial accounts. Accounting is the art of measuring, communicating and interpreting financial activity. Accounting is also widely referred to as the "language of business".

Any way you look at it, accounting is a process. It is a process of identifying economic events related to a business activity, recording these events, and subsequently reporting on this business activity with some means of financial representation (financial statements or other reports).

Accounting can be represented as a cycle:
  1. Observe events.
  2. Identify those events which are economic events.
  3. Measure the economic events.
  4. Record measurements.
  5. Classify measurements.
  6. Summarize measurements.
  7. Report business activity in financial statements or other reports.
  8. Interpret the contents of financial statements and other reports.
What really adds value to an accountants services is the ability to supply items #7 and #8.

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