FINANCIAL and MANAGERIAL

ACCOUNTING (MBAd-621)

Financial Accounting Part

by
ENIYE DARGIE

July 7, 2021
 CHAPTER - 1

INTRODUCTION TO FINANCIAL
ACCOUNTING

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Accounting is the language of business!

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 Its purpose is to communicate or report the
results of business operations and its various
aspects.
 It is the process of identifying, measuring and
communicating economic information to permit
informed judgments and decisions by users of
the information. 

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 ?
Why accounting is being called as
“the language of business”? Discuss
with practical examples.

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 AICPA has defined accounting as“ is the art of recording,
classifying and summarizing in a significant manner and in terms
of money transactions and events which are, in part at least, of a
financial character and interpreting the results thereof.”
 AAA has defined accounting as “the process of identifying,
measuring and communicating economic information to permit
informed judgments and decisions by users of the information.”

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On analyzing the above definitions, the following characteristics
of accounting emerges:
 Accounting is the art of recording and classifying different
business transactions.
 The business transactions may be completely or partially of
financial nature.
 Generally the business transactions are described in
monetary terms.
 In accounting process, the business transactions are
summarized and analyzed so as to arrive at a meaningful
interpretation.
 The analysis and interpretations thus obtained are
communicated to those who are responsible to take certain
decisions to determine the future course of business

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 Objectives of Accounting
 To record the business transactions in a systematic
manner.
 To determine the gross profit and net profit earned by a
firm during a specific period.
 To know the financial position of a firm at the close of
the financial year by way of preparing the balance
sheet.
 To facilitate management control.
 To assess the taxable income and the sales tax
liability.
 To provide requisite information to different parties, i.e.,
owners, creditors, employees, management,
government, investors, financial institutions, banks etc.
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 Accounting Information(AI): A Means to an End
 Accounting was developed as a system for reporting
information to the owners including shareholders &
other investors of the business
 Accounting information is not an end , but is a means
to an end i.e. its final product is decision which is
ultimately enhanced by the use of accounting
information, whether that decision made by owners,
management, creditors, government bodies, labor
unions ,etc.

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 ?
Accounting information is a means to
an end, not the end in itself. Discuss

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 Accounting from a User’s Perspective
Many people think of accounting as simply a
highly technical field practiced only by
professional accountants.
In reality, nearly every one uses accounting
information daily to measure & communicate
economic events.
Whether you manage a business , make
investments ,or monitor how you receive & use
your money, you are working with accounting
concepts & accounting information.
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 Purposes & Types of Accounting Information
Purposes of Accounting Information
1.Score Keeping: The score-keeping function is one of the
primary purposes of accounting information. It basically
deals with the financial health of the enterprise.
 It has two aspects, one is that of keeping record of actual
data on performance – a constant process of
measurement and valuation. The other aspect is
concerned with putting the data in relation to
predetermined standards.
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 In order to answer the question whether the
performance is good, bad or indifferent we have
to have a constant process of comparison
against some norms, standard or benchmarks.
 This is achieved by preparing a series of reports
based on comparison of actual data with the
planned data.
2. Attention Directing: Attention directing is nothing
but the process of giving a signal/an indication to
the user of accounting information about the
need to take a decision.
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 As such the accounting information supplied
arouses the user’s attention to take decision.
 For example, a report from an accountant
comparing the actual performance data against
budget data is a score keeping record. In the
hands of a decision-maker it is an attention
directing information.
 This would enable him to immediately focus his
attention on the deviations or variances from the
budgets or the plans.

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3.Problem Solving: The problem solving function of
accounting information involves provisions of such
information, which enables the manager to find solutions
to the problems.
 There are many problems, which accounting information
could highlight & provide for their possible solutions, such
as ‘make or buy decisions’ with respect to components,
parts or products, ‘continue or drop decisions’ with
respect to product lines, ‘leasing or acquisition decisions’
with respect to assets etc.
 Problem solving is therefore an important purpose of AIS.
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 ?
Score keeping, attention directing &
problem solving are the basic
purposes of accounting. Discuss
with reference to your organization
or the organization that you are
familiar with.
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 Types of Accounting Information
 Financial, Managerial & Tax Accounting, are the 3 types of
Accounting Information used widely in the business
community
1.Financial Accounting: financial accounting information appears
in financial statements that are intended for external use.
 Describes the financial resources, obligations,& activities of
an economic entity.
 It is designed to primarily to assist investors & creditors in
deciding where to place their scarce investment resources.

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2. Management Accounting: management
accounting information is for internal use &
provides special information for managers.
 Information managers use may range from
broad, long-range planning data to detailed
explanations of why actual costs varied from
cost estimates.
 Management accounting generates information
that managers can use to make sound
decisions such as financial, resource allocation,
production & marketing decisions.
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3.Tax Accounting- preparation of income tax
returns is a specialized field in accounting.
 Tax returns are based on financial accounting
information.
 However, the information is adjusted/
reorganized to conform with income tax
reporting requirements.
 Income tax planning is the most challenging
task of tax accounting.

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 ?
How does management accounting
differs from financial accounting?
Explain briefly, how management
accounting helps the management of
a company in making its decisions.
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 Accounting Systems (AS)
 Accounting system consists of the personnel,
procedures, devices & records used by an organization:
 to develop accounting information &
 to communicate this information to decision makers.
 The design & capabilities of these systems vary greatly
from very small business to large business
organizations.
 But,the basic purpose of accounting system remains
the same to meet the organization’s needs for
accounting information as efficient as possible.
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 Factors affect the structure of accounting system
in an organization are:
the co.’s need for accounting information, &
the resources available for the operation of the system.
Determining the Information Needs
 Information needs of an organization are affected
by:
size of the organization,
ownership,(public or private), &
the philosophy of management.

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 The Cost of Producing Accounting Information
Accounting system should be cost effective i.e.
the value of the information produced should
exceed the cost of producing it.
Development and installation of computer
based accounting system have increased
greatly the types and amount of accounting
information that can be produced in a cost
effective way.

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 Basic Functions of Accounting
 Recording: Accounting records business transactions in
terms of money. It is essentially concerned with ensuring
that all business transactions of financial nature are
properly recorded. Recording is done in journal, which is
further subdivided into subsidiary books from the point of
view of convenience.
 Classifying: Accounting also facilitates classification of all
business transactions recorded in journal. Items of similar
nature are classified under appropriate heads. The work of
classification is done in a book called the ledger.
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 Summarizing: Accounting summarizes the classified
information. It is done in a manner, which is useful to the
internal and external users. Internal users interested in
this information are the persons who manage the
business. External users of information are the investors,
creditors, tax authorities, labor unions, trade
associations, shareholders, etc.
 Interpreting: It implies analyzing and interpreting the
financial data embodied in final accounts. Interpretation
of the data helps the management, outsiders and
shareholders in decision making.
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 ?
What are the basic functions of
accounting? Discuss with relevant
examples by referring your
organization or the organization you
familiar with.

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 Financial Accounting Information
 Financial accounting information provides information
about the financial resources, obligations, & activities of
an enterprise that is intended for use primarily by external
decision makers i.e. investors and creditors.
 External Users of Accounting Information
 Investors
 Lenders
 Creditors
 Customers
 Government Agencies
 Labor Unions
 Suppliers
 Trade Associations
 General Public
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 Objectives of Financial Reporting
 To provide information useful in making investment
& credit decisions.( General)
 To provide information useful in assessing amount,
timing, & uncertainty of future cash flows.
( Specific)
 To provide information about economic resources,
claims to resources & changes in resources &
claims.( Specific)
=met in large part by a set of financial statements
( balance sheet, income statement & statements of
cash flow).
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 Characteristics of Externally Reported Information
 Financial Reporting-A Means- it is a means to an end-

ultimate outcome is to improve the quality of decision

making by external parties.
 Financial Reporting vs. Financial Statements

 Financial reporting is broader than financial statements

 Financial reporting includes press release, articles in a
journal, communication via internet
 Financial statements includes balance sheet, income
statement and statements of cash flow
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Historical in nature: looks back in time & reports
the results of events & transactions that already
happened.
Inexact & approximate measure: have a great
look of precision but in fact much of it is based
on estimates, judgment & assumptions that
must be made about both the past & future.
e.g. allocation of depreciation expenses
General purpose assumptions: for multiple
users ( “ one size fits all).
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 ?
What is financial accounting information?
What are the objectives of financial
accounting ?
Who are the users of financial accounting
information?
Discuss the applicability of financial
accounting in your organization or the
organization you familiar with.

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 Management Accounting Information
 Management accounting is the design & use of accounting
information system to achieve the orgn’s objectives by
supporting decision makers inside the enterprise.
 Internal Users of Accounting Information
 BODs, CEO, CFO
 Business unit managers
 Plant mangers
 Store managers
 Line supervisors
 Other employees and any level of management
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 Objectives of Management Accounting
 To provide information useful to help the enterprise
achieve its goals, objectives & mission.( General)
 To provide information useful in assessing both the past
performance & future directions of the enterprise &
information from internal & external sources. ( Specific)
 To provide information about decision making authority,
for decision making support, & for evaluating & rewarding
decision making performance. ( Specific)

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Characteristics of Managt Accounting Information
 Importance of timeliness- should occur at good time
without delay.
 Identity of decision makers-for those who have
decision making authority.
 Oriented towards the future-to motivate management
to make future decisions that are in the best interest
of the enterprise, consistent with its goals, objectives
& missions.
 Measures of efficiency and effectiveness of resource
utilization.
 Management accounting information a means-not an
end in and of it self.
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 ?
Explain the importance of
management accounting information
for internal parties primarily
management in terms of the
objectives & characteristics of that
information.

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 Integrity( andinet)or hakegninet) of Accounting
Information
 Integrity refers to the quality of being
complete/unbroken, unimpaired, sound, honest &
sincere.
The integrity of accounting information is enhanced
by :
1. Institutional Features
2. Professional Organizations
3. Competence, Judgment and Ethical Behavior.

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 1.Institutional Features (IFs)
 Institutional features include standards for the preparation of
accounting information, an internal control structure,& audits of
financial statements.

a). Standards for the preparation of accounting information

 Accounting information that is communicated externally to

investors, creditors, and other users, must be prepared in
accordance with standards that are understood by both the
preparers & users of that information.

 We call these standards GAAPs that provide the general

framework for determining what information is to be included in
financial statements & how that information is to be presented.

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 GAAP includes broad principles of measurement &
presentation, as well as detailed rules that are used by
professional accountants in preparing accounting
information and reports.
 Accounting principles vary somewhat from country to
country.
 The International Accounting Standards Board (IASB) is
currently attempting to establish greater uniformity among
the accounting principles in use around the world in order
to facilitate business activity that increasingly is carried out
in more than one country.
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FASB  
 Today, the most authoritative source of GAAPs is the
FASB
 It is an independent rule-making body, consisting of
seven members from the accounting profession, industry,
government, & accounting education.
 FASB is authorized to issue Statements of Financial
Accounting Standards (& other authoritative accounting
pronouncements), which represent official expressions of
GAAPs.
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SEC
 is a governmental agency with the legal power to establish
accounting principles & financial reporting requirements for
publicly owned corporations.
IASB  
 When an enterprise operates beyond the borders of its own
country, differences in financial reporting practices between
countries can pose significant problems.
 IASB is playing a leading role in the harmonization process.
 The IASB issues International Financial Reporting Standards
(IFRSs).
   

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b). Audits of financial statements   
 What assurance do outsiders have that the financial
statements issued by management provide a complete
& reliable picture of the company’s financial position &
operating results?
 In large part, this assurance is provided by an audit of
the company’s financial statements, performed by a
firm of certified public accountants (CPAs).

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 These auditors are experts in the field of financial reporting

& are independent of the company issuing the financial

statements.
 Accountants & auditors use the term fair in describing

financial statements that are reliable and complete,

conform to GAAPs, & are not misleading.
 For the auditor to reach the conclusion that the financial

statements are fair representations of a company’s

financial position, results of operations, & cash flows, the
statements must comply in all important ways with GAAPs.

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c).Internal control structure
 Includes all measures used by an organization
to guard against errors, waste,& fraud to:
 assure the reliability of accounting information,
 compliance with management policies, &
 evaluate the level of performance at all levels

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2. Professional Organizations
 Several professional accounting organizations play an
active role in improving the quality of accounting
information that is used by investors, creditors,
management, & others. These organizations include:
 American Institute of CPAs (AICPA)   

 Institute of Management Accountants (IMA)   

 Institute of Internal Auditors (IIA) 

 American Accounting Association (AAA)   

 Accounting Society of Ethiopia (ASE)

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3.Competence, Judgment, & Ethical Behavior
A characteristic common to all recognized professions,
including medicine, law, & accounting, is the need for
competent individual practitioners to solve problems using
their professional judgment & applying strong ethical
standards.
 Judgment always involves some risk of error. Some errors in
judgment result from carelessness or inexperience on the part
of the preparer of financial information or the decision maker
who uses that information. Others occur simply because
future events are uncertain & do not work out as expected
when the information was prepared.
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 If the public is to have confidence in the judgment of
professional accountants, these accountants first must
demonstrate that they possess the characteristic of
competence.
 Both the accounting profession & state governments have
taken steps to assure the public of the technical competence
of certified public accountants (CPAs).
 The licensing requirements vary somewhat from country to
country, but in general, an individual must be of good
character, have a college education with a major in
accounting, pass a rigorous examination, & have accounting
experience.
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 ?
What is meant by integrity of
accounting information? Discuss the
different ways of enhancing
accounting information integrity.

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Case: You are a professional accountant working for a
public accounting firm and find yourself in a difficult
situation. You have discovered some irregularities in
the financial records of your firm’s client. You are
uncertain whether these irregularities are the result of
carelessness on the part of the company’s employees
or represent intentional steps taken to cover up
questionable activities. You approach your superior
about this and she indicates that you should ignore it.
Her response is, “These things happen all of the time
and usually are pretty minor. We are on a very tight
time schedule to complete this engagement, so let’s
just keep our eyes on our goal of finishing our work by
the end of the month.” What would you do?
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 The
The End
End
Of
Of Chapter
Chapter 11

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