Question

Critically discuss on Financial Accounting.

Answer 1

Answer:

Financial accounting is that branch of accounting that deals with identification, recording, and classification, summarizing of business transactions and estimating & interpreting the results thereof. The five functions included in the above definition are individually very important steps of financial accounting:

-Identification of business transaction: The first and foremost step of accounting is to identify the business transaction that whether it is a monetary or non monetary transaction. Because irrespective of importance, non monetary transaction s are not recorded in books of accounts as per Money Measurement Concept of accounting.

- Recording of business transaction: Business transactions are first recorded in General Journal as they take place in a chronological order.

-Classification of business transaction: The next step in financial accounting is to classify the transactions recorded in General Journal as per their nature in the form of Ledger. As ledger categorizes the transactions as per the group they belong. For example all transactions related to sales will be transferred to sales ledger, transactions related to cash will be transferred to cash ledger, etc.

- Summarizing of business transaction: After classification of transactions through ledger, the next step is to present a compressed form of transaction by summarizing through trial balance, which portrays the balances of various ledger accounts on a particular date.

- Estimating & Interpreting results of business transaction: The last step of financial accounting is to determine the results of business transactions and thereafter analysing the results through various techniques like cash flow statement, ratio analysis, etc. and interpreting the results, so as to assist the management in policy framing and decision making.

Strengths of financial accounting

-Record of business transactions: Financial accounting is of utmost importance as it helps in keeping proper records of all transactions taken place in business in a particular financial year.

- Sources of internal and external communication:   The internal parties like employees and owners interested in financial information regarding profits, salary, bonus etc. may seek that with the help of financial accounting. In the same way, external parties like, investors, suppliers and government may analyse the profit making capacity and profit viability of a business through financial accounting.

-Determining business results in form of profit or loss: Financial accounting with the help of income statement helps in determing the results of business, in terms of profit or loss. If results are not calculated in an accounting period, a business will not be able to evaluate in which direction the efforts are moving.

-Analysis of business results: Business results can be analyzed with the help of analysis techniques Cash flow statement, fund flow statement, Comparative analysis, Common size statement, ratio analysis, etc. so as to aid management in decision making and policy formulation.

- Comparison with competitors: The results of business calculated through financial statements can be compared with competitors. As comparison with competitors facilitates improvement in business operations, policies and efficiency in business functions.

Weaknesses of financial accounting

-Ignorance of Non Monetary transactions: Non monetary transactions are those which cannot be measured in terms of money. Some of this transaction are really important but still cannot be recorded in financial accounting. For examples: A team of dedicated and punctual employees is a very important factor is achieving results on time but cannot be present in financial statements.

-Rigidity in principles: Consistency principle states that, once an accounting method is adopted in business it should be followed consistently in future accounting periods except if change in method assures enhancement in profits. This provides rigidity to financial accounting.

-Based on historical data: Business Transactions are recorded at their book value or cost initially. Changes in prices are not accommodated in accounting. For example: Assets are recorded in balance sheet according to their book value and depreciation is charge on those values. Changes in market prices of those assets are not recorded in balance sheet. Thus, the information provided by balance sheet could be misleading if maximum part of the amount shown is based on historical costs.

-Impact of Inflation: As discussed above, in financial accounting assets and liabilities are depicted on their book value. So, financial accounting ignores impact on inflation on values of assets and liabilities.

-Limitation of accounting period concept: As per accounting period concept financial statements are at the end of 12 months or a year. But to get a better picture of business operations, results should be evaluated regularly in short span of time, may be semi-annually, quarterly or monthly.

-Possibility of fraud: The management of a business firm may intentionally alter the results depicted in financial statements. This type of scenario can generally occur when there is excessive pressure to report outstanding business results. For example: amount of bonus for employees depends of sales volume, so sales value may be exaggerated for getting good amount of bonus.

-Lack of futuristic approach: Financial statements provide information either about historical data or the financial position of a business on a particular date. It is not necessary that financial statements provide any prediction regarding what is going to happen with profits, sales, expense, incomes, etc. in the future.

Hope I have covered all the points. Good Luck. Thank You.