Financial accounting is primarily the preparation of financial statements and keeping records of business transactions so that other entities can utilize it. The basis of financial accounting is economic transactions, and an enterprise that is involved in such activities has to keep records of its finances (Ramachandran & Kakani 2007, p. 3). Although the preparation of financial statements is a necessary aspect that every business has to consider, the information contained in the statements has to be accurate. This financial information should be reliable, relevant, comparable, and understandable (Barry 2010, p. 2).
Financial reporting deals with the collection of an entity’s financial information and disclosing it to the external parties (Maynard 2013, p. 4). The declaration of the content of financial statements is critical because it provides relevant information regarding the performance of an organization, as well as the status of that enterprise. Since businesses come in different forms, some of them could be concerned with profit-making while the primary focus of others is not the same. Financial reporting is necessary because it provides useful information which can help in making economic and financial decisions (Gibson 2008, p. 5). Since financial reporting provides information about a company’s earnings, it also helps in the assessment of amounts and uncertainty of cash flows in the future.
The provision of reliable and unbiased accounting information to external parties requires one to abide by certain standards, and these are the generally accepted accounting principles (GAAP) (Weygandt, Kimmel, & Kieso 2015, p. 406). These standards make the collection and presentation of financial data uniform, as well as reliable. However, many businesses that conduct their operations globally have now embraced the use of the International Financial Reporting Standards (IFRS) (Mackenzie et al. 2011, p. 1). The majority of business are expected to comply with this worldwide standard of presenting financial information. The International Accounting Standards Board (IASB) came up with these standards which are also emerging as the financial reporting benchmark worldwide (Mirza & Ankarath 2012, p. 8). The fact that multinational companies have to be consistent with the financial information that they present also explains the need for the harmonization of the accounting standards (Gibson 2012, p. 14).
Different groups of people need the financial information found in the statements of a business entity. The external parties that are often in need of the financial statements can be categorized into those that have a direct financial interest and those whose financial interest is indirect (Needles & Powers 2008, p. 12). The parties with a direct financial interest in the business entity are primarily those that have some form of investment in the enterprise while the other group uses the information to make public decisions. These users include creditors, the management, investors, employees, government agencies, and the public (Albrecht, Stice, & Stice 2007, p. 11). The information that one finds in financial statements indicates whether a business has achieved its goals of profitability, and it might also indicate the future performance of the enterprise.
The groups of people such as lenders, investors, and government agencies all require the information in the financial statements, but they have different uses for that data. Creditors would often require payment from an enterprise for the funds that they have lent, and an enterprise has to repay this with interest. If a lender such as a bank needs to ascertain that a business would repay a loan, it would require information such as statements that indicate the capability of the firm to honor the agreement. Creditors can obtain financial information from a business after asking for the presentation of the cash flow, tax returns, as well as the financial statements (Albrecht, Stice, & Stice 2007, p. 10).
Investors also require financial statements from a business. The primary interest that investors have in the information that they find in financial statements include the potential earnings of the business, as well as details regarding its past success (Needles & Powers 2008, p. 11). Government agencies also require a business to present its financial statements to them. By monitoring a company’s financial accounting disclosures, these agencies can ascertain that the investors have adequate information to enable them to make informed decisions (Albrecht, Stice, & Stice 2007, p. 12).
A company’s management is the one that prioritizes the use of the financial information the most. The management would, therefore, utilize the financial accounting numbers to state its goals, as well as the calculation of bonuses (Albrecht, Stice, & Stice 2007, p. 11). Considering that one can utilize the financial statements in the calculation of bonuses, employees can also make use of them to determine their total earnings. The public also needs this information to ascertain the contribution of the enterprise to the local economy (Maynard 2013, p. 7).
There are various legal and regulatory influences on financial statements. The need to present accounting information through financial reporting is primarily because the accounting standards have converged and businesses have to be effective in the presentation of their reports (Wilson & Adler 2013, p. 76). Every accounting system has to develop the appropriate standards, as well as define its objectives. Multinational companies are affected the most by the need to abide by the accounting standards, and the local regulations in a country would determine their presentation of financial statements (Schon 2008, p. 208). The majority of nations also have different accounting standards, and the need for harmonization and standardization of their practices is the primary regulatory influence of financial statements (Shenkar, Luo, & Chi 2014, p. 504). Consequently, the harmonization of these standards has led to an increase in the compatibility of the accounting practices, hence reducing logical conflicts among the users of that information.
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Accounting and reporting standards can also support different laws and regulations. Following the implementation of the IFRS regulations, the differences that existed between countries especially in the EU regarding the presentation of financial information were eliminated (Moloney 2014, p. 153). The financial reporting standards (FRS) that a group of countries uses would often be consistent with the laws and regulations that guide the business operations in that region. Many businesses are conducting their operations globally, and the IFRS standards were established following the comparison of the accounting rules in different nations (Beatty & Samuelson 2012, p. 647).
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