«Paul M. Collier Aston Business School, Aston University Accounting for Managers Accounting for Managers: Interpreting accounting information for ...»
An advantage in understanding interpretive and critical alternatives to the rational economic one is what Covaleski et al. (1996) called ‘paradigmatic pluralism... alternative ways of understanding the multiple roles played by management accounting in organizations and society’ (p. 24). The full text of the Covaleski et al.
paper is included as one of the readings in this book.
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Cooper, D. J., Hayes, D. and Wolf, F. (1981). Accounting in organized anarchies: Understanding and designing accounting systems in ambiguous situations. Accounting, Organizations and Society, 6(3), 175–91.
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Hopper, T., Otley, D. and Scapens, B. (2001). British management accounting research:
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Constructing Financial Statementsand the Framework of Accounting
This chapter introduces each of the principal ﬁnancial statements, beginning with the Proﬁt and Loss account and Balance Sheet. It begins with an overview of the regulations governing ﬁnancial statements and describes the matching principle, which emphasizes prepayments, accruals and provisions such as depreciation. The chapter then describes the Cash Flow statement and the management of working capital. It concludes with an introduction to agency theory.
Accounting provides an account – an explanation or report in ﬁnancial terms – about the transactions of an organization. Accounting enables managers to satisfy the stakeholders in the organization (owners, government, ﬁnanciers, suppliers, customers, employees etc.) that they have acted in the best interests of stakeholders rather than themselves.
These explanations are provided to stakeholders through ﬁnancial statements or reports, often referred to as the company’s ‘accounts’. The main ﬁnancial reports are the Proﬁt and Loss account, the Balance Sheet and the Cash Flow statement.
The ﬁrst two of these were introduced brieﬂy in Chapter 3.
The presentation of ﬁnancial reports must comply with Schedule 4 to the Companies Act, 1985, which prescribes the form and content of accounts. Section 226 of the Act requires the ﬁnancial reports to represent a ‘true and fair view’ of the state of affairs of the company and its proﬁts. The Companies Act requires directors to state whether the accounts have been prepared in accordance with accounting standards and to explain any signiﬁcant departures from those standards. For companies listed on the Stock Exchange, there are additional rules contained in the Listing Requirements, commonly known as the Yellow Book, which requires the disclosure of additional information.
There is a legal requirement for the ﬁnancial statements of companies (other than very small ones) to be audited. Auditors are professionally qualiﬁed accountants who have to conduct an audit – an independent examination of the ﬁnancial statements – and form an opinion as to whether the ﬁnancial statements form a true and fair view and have been prepared in accordance with the Companies Act.
ACCOUNTING FOR MANAGERSAlthough the requirement for a true and fair view is subjective and has never been tested at law, it takes precedence over accounting standards.
Accounting standards are principles to which accounting reports should conform. They are aimed at:
ž achieving comparability between companies, through reducing the variety of accounting practice;
ž providing full disclosure of material (i.e. signiﬁcant) factors through the judgements made by the preparers of those ﬁnancial reports; and ž ensuring that the information provided is meaningful for the users of ﬁnancial reports.
However, a criticism of the standards is that they are set by the preparers (professional accountants) rather than the users (shareholders and ﬁnanciers) of ﬁnancial reports.
Financial Reporting Standards (FRSs) are issued by the Accounting Standards Board (ASB) and Statements of Standard Accounting Practice (SSAPs) were issued by the Accounting Standards Committee, which preceded the ASB. FRSs and SSAPs govern many aspects of the presentation of ﬁnancial statements and the disclosure of information (for a detailed coverage, see Blake, 1997). Examples of
commonly applied standards include:
SSAP9 Stocks SSAP13 Research and Development SSAP21 Leases FRS10 Goodwill FRS12 Provisions FRS15 Fixed Assets and Depreciation A Financial Reporting Review Panel has the power to seek revision of a company’s accounts where those accounts do not comply with the standards and if necessary to seek a court order to ensure compliance.
Interestingly, the US equivalent of the true and fair view is for ﬁnancial statements to be presented fairly and in accordance with Generally Accepted Accounting Principles (or GAAP). There is a move towards the harmonization of accounting standards between countries through the work of the International Accounting Standards Board (IASB). This has been a consequence of the globalization of capital markets, with the consequent need for accounting rules that can be understood by international investors. The dominance of multinational corporations and the desire of companies to be listed on several stock exchanges have led to the need to rationalize different reporting practices in different countries.
In Europe, all listed companies of member states of the European Union have to comply with IASB standards by 2005.
CONSTRUCTING FINANCIAL STATEMENTS 69Reporting proﬁtability
However, business proﬁtability is determined by the matching principle – matching income earned with the expenses incurred in earning that income. Income is the value of sales of goods or services produced by the business. Expenses are all the costs incurred in buying, making or providing those goods or services and all the marketing and selling, production, logistics, human resource, IT, ﬁnancing, administration and management costs involved in operating the business.
The proﬁt (or loss) of a business for a ﬁnancial period is reported in a Proﬁt and Loss account. This will typically appear as in Table 6.1.
The turnover is the business income or sales of goods and services. The cost of
sales is either:
ž the cost of providing a service; or ž the cost of buying goods sold by a retailer; or ž the cost of raw materials and production costs for a product manufacturer.
However, not all the goods bought by a retailer or used in production will have been sold in the same period as the sales are made. The matching principle requires that the business adjusts for increases or decreases in inventory – the stock of goods bought or produced for resale but not yet sold. Therefore, the cost of sales in the accounts is more properly described as the cost of goods sold, not the cost of goods produced. Because the production and sale of services are simultaneous, the cost of services produced always equals the cost of services sold (there is no such thing as an inventory of services). The treatment of inventory is covered in more detail in Chapter 11. The distinction between cost of sales and expenses leads to two types of proﬁt being reported: gross proﬁt and operating proﬁt.
Gross proﬁt is the difference between the selling price and the purchase (or production) cost of the goods or services sold. Using a simple example, a retailer selling baked beans may buy each tin for 5p and sell it for 9p. The gross proﬁt is 4p per tin.
gross proﬁt = sales − cost of sales