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Accounting and Finance

Importance of Accounting and Finance in Business

Introduction

The proper knowledge of accounting and finance is necessary to start up a new venture. It is essential to make proper utilization of financial resources that are acquired to efficiently support the business operations. The report proposed herewith deals with the case for client of an accounting firm. The new prospective clients of accounting firm are two brothers who want to establish a new venture. The initial investment is available with them in form of money inherited through grandfather’s will. The report generates a deep understanding of various accounting and financial concepts to support their business plan. It is through the report that types of business units, financial accounting, management accounting and available sources of finance are discussed in detail.

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Different forms of business unit

The business unit can be established or registered in different forms. It is essential to select the most appropriate structure for the business planned (Lashine, 2003). The new venture can be established in majorly three forms such as sole proprietorship, partnership and public limited company. An in-depth evaluation of three kinds of businesses is presented underneath in detail.

Sole proprietorship: The small-scale business is controlled and owned by an individual or his family and friends and is referred as sole proprietor. As a sole trader, the owner is responsible for all assets and liabilities associated with the business venture. The business unit can be established as a sole proprietor with limited legal formalities. Moreover, the establishment of sole proprietorship requires investment of lower sum of money. It is considered to be the simplest form of setting up a new business venture. The owner possesses high level of control and can earn high returns. However, it is difficult to distinguish between business and personal expenses in case of sole proprietorship (Adrian, 2010). In addition, the businesses which are registered as a sole proprietor have certain set of limitations for expansion purpose. In case of insolvency, the personal assets of sole trader can also be acquired to settle the business liabilities. The promoters with limited amount of capital and plan required to establish small scale business that can be registered as sole proprietor.

Partnership: The business unit that is established by two or more individuals is referred as partnership form of the organization. Each of partners invests certain sum of money and shares profit within the business unit. An agreement is signed between partners so as to avoid all kinds of discrepancies in future. The responsibility and risk can be shared among partners during the life of business. However, each partner assumes unlimited liability for debt obligations of the business unit. In addition, every partner possesses equal vote rights that makes decision making process complex. The group of individuals who want to start up a venture with adequate amount of investments can go for partnership business.

Public limited company: The public limited company is established as a separate legal entity. It is established by promoters, financed by shareholders and managed by managers. In case of public limited company shareholders are real owners. However, they don’t assume unlimited liability in case of insolvency. There liability is limited to extent of their investment within business unit. Moreover, shareholders possess voting rights according to the level of investment. In case of managing operations at publically listed company, the difficulty arises in maintaining a balance between external and internal stakeholders (Robson, 2008). The interest of managers and shareholders contradict in majority of cases. However, an effective decision making process helps in overcoming with the limitation. The business with large amount of paid capital is established as a public limited company.

Financial accounting v/s. Management accounting

Financial accounting is considered to be a process of recording, analysing and summarizing all business transactions that are of financial nature. It deals with the evaluation of all transactions that can be measured in monetary terms. It mainly aims at preparation of accounts in form of Profit & loss account and balance sheet (Vinal , Umesh and Mary, 2014). It is through financial accounting that the organization is able to ascertain amount of profit earned or loss incurred during the years. The accounts are prepared as per acceptable accounting standards under the scope of financial accounting. It can be said that deep understanding of financial accounting supports preparation and evaluation of accounts within the organization.

Management accounting on other hand emphasizes on supporting decision making process within organization. It aims at disseminating complete valuable financial information to related parties on time. Managerial accounting is considered to be highly important for decision making process (Macintosh and Quattrone, 2010). The middle and upper-level of management is able to frame the policies and strategies through support provided by managerial accounting. It emphasizes on preparation of budgets, costing and pricing decision within the organization. It can be said that the managerial accounting is a tool that provides support to decision making process.

The wide range of difference exists between financial and management accounting. The difference between two fields of accounting is detailed underneath.

  • All external stakeholders are able to review performance of business through information published by the way of financial accounts. Internal stakeholders or management on other hand majorly manages the business operations through information that is disseminated by management accounting.
  • The financial accounting is concerned with the analysis of past performance. However, management accounting emphasizes on supporting future decision making process.
  • Financial accounting is based on accounting standards which are developed at national and international level. Management accounting on other hand is based on specific needs of managers or organization at whole (Debarshi, 2011).
  • It is mandatory for businesses to prepare and report financial accounts. However, reports and forecasts are developed as a part of managerial accounts on the wish of managers.
  • Financial accounting aims at recording and disclosing the performance of business unit in monetary terms. However, managerial accounting aims at providing relevant information to managers for decision making process (Vinal, Umesh and Mary, 2014).
  • Financial accounts are prepared for reporting performance of the entire organization. However, management accounting emphasizes on preparation of reports for specific departments.
  • The businesses majorly publish financial accounts on quarterly, half-yearly and yearly basis.  However, reports as per management accounting are prepared on daily, weekly or monthly basis.
  • In order to prepare financial accounts, the specific formats are followed by the organizations. However, reports that are prepared as a part of management accounting are not based on specific formats (Besley and Brigham, 2007). They are prepared in formats which are demanded by the various departments within organization.
  • It is seen that financial accounting significantly differs from management accounting. However, both fields of accounting are considered to be highly important for supporting operations at organization. It is therefore necessary to adopt both procedures adequately for supporting the growth within business unit.

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Sources of finance

The organization is responsible to acquire funds through appropriate sources of finances. Every business unit faces an issue to meet financial requirements that arises as a result of business operations. The organizations need investment for long, medium and short-term duration. The different sources through which businesses can meet its financial requirements are described underneath in detail.

Long-term sources of finance

Equity capital: The publically listed company can acquire funds through raising equity capital. It is the financing option that helps organization to acquire funds for long-term. It is also named as owners’ capital since shareholders are real owners of the business unit. The organization can acquire large sum of money through issue of equity capital. However, issue of equity capital involves large amount of floating cost. Equity share holders also possess voting rights in the business unit. They can affect the organizations’ decision making process by exercising voting rights (Corsatea, Giaccaria and Arántegui, 2014). However, the business unit need not to make fixed interest payment in case of issue of equity capital. The organization can go for issuing equity capital by diluting some part of ownership if large amount of funds are required for a long-term.

Debentures or Corporate bonds: The big business houses or companies with high credit rating can float their debentures or corporate bonds. It is a kind of debt-fund that carries a fixed rate of interest. The financing option is considered highly costly in nature since it involves interest payments and high floating cost. The financing option is suitable for the high credit ranking companies who are in need of funds for a long-term.

Venture capital: It is the financing option that caters to need of new business venture. Venture capitalists make an investment into new business ventures with high growth potential. They tends to support ventures that are based on new and creative business models (Sulaiman and et.al., 2005). They provide financial assistance to organization at initial or early stages of business development. The money is invested in return for equity stake in newly established venture. The financing option is considered to be highly suitable for long-term financing of new venture.

Medium-term sources of finance

Bank Loan: The financial initiations tend to provide huge support for establishing new venture or continuing present operations. The banking units provide variety of loan facilities to businesses in present era. Bank loans are considered to be highly efficient for meeting up medium-term requirement of funds. In order to acquire funds through bank loans, the business unit needs to undergo with some legal formalities. Moreover, it carries a fixed obligation for interest payments (Leszcynska, 2012). Bank loans are considered to be suitable financing option to meet the requirements for 1 to 5 years.

Hire purchase and leasing: The business units have an option to acquire assets on lease or hire purchase. As per the agreement, organization is able to purchase the assets on payment of reasonable amount of instalments or rent. The financing option helps in satisfying the requirements for purchase of assets. The organization can select option for hire purchase or leasing so as to acquire assets for short and medium term.

Short-term sources of finance

Bank overdraft: In order to meet short-term and very short-term financial requirement, the organization can opt for bank overdraft. The banking institutions provide an opportunity to enjoy credit limit in form of bank overdraft. Moreover, they also provide working capital loans so as to meet short term financial requirements (Besley and Brigham, 2007). In case of strict financial requirements for short run, the business unit can opt for bank overdraft. The interest rate on overdraft facility is higher in nature. Moreover, it is to be repaid in specified duration since the credit is granted for short-term. The organization can select the bank overdraft as an option to meet the short-term financial requirements.

Retained earnings: The businesses tend to adopt strategy to save some part of its earnings as a part of reserves and surplus. The portion of profits that are saved by organization is referred as retained earnings. The retained earnings can be utilized by business units at the time of uncertainties. It can be therefore said that the organizations can utilize amount which is saved as retained earnings in order to meet the short-term financial requirements (Sulaiman and et.al., 2005). The business unit need not to incur any amount of cost for acquiring funds through retained earnings since it is internal source of finance. The organization can utilize its retained earnings in case of uncertainties and to meet short term financial requirements.

Conclusion and Recommendations

The report proposed herewith deals with various accounting concepts and their understanding. On the basis of evaluation in report, it can be claimed that the organization can be established in different forms. The promoters should evaluate their requirements and selects an appropriate form of the firm. It is also seen that the financial accounting differs significantly from management accounting. The organization should report its performance as per the acceptable accounting standards. Moreover, appropriate procedures should be adopted to manage the financial resources within business unit. Finally, the business unit should select source of finance that suits with its specific requirements. The different financing options have distinct set of merits and demerits that are associated with it. The business unit should therefore analyse its own condition and must select the best alternative. It is suggested that the organization should acquire funds from appropriate sources and make optimum utilization of the same.

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References

  • Besley, S. and Brigham, E., 2007. Essentials of Managerial Finance. Cengage Learning
  • Corsatea, T. D., Giaccaria, S. and Arántegui, R. L., 2014. The role of sources of finance on the development of wind technology. Renewable Energy.
  • Debarshi, B., 2011. Management Accounting. Pearson Education India.
  • Lashine, H. S., 2003. Accounting knowledge and skills and the challenges of a global business environment. Managerial Finance.
  • Leszcynska, A., 2012. Towards shareholders' value: an analysis of sustainability reports.  Industrial Management & Data Systems.
  • Macintosh, N. B. and Quattrone, P., 2010. Management Accounting and Control Systems: An Organizational and Sociological Approach. John Wiley & Sons.
  • Robson, R., 2008. Costing, funding and budgetary control in UK hospitals: A historical reflection. Journal of Accounting & Organizational Change.
  • Sulaiman, M. and et.al., 2005. Is standard costing obsolete? Empirical evidence from Malaysia. Managerial Auditing Journal.
  • Vinal , M., Umesh, S. and Mary, L., 2014. Management accountants' perception of their role in accounting for sustainable development: An exploratory study. Pacific Accounting Review.
 
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