The Importance of Accounting

The Role of Management Accounting

What is the importance of accounting in building a successful home based business? There are three key aspects to managing small businesses:

  • marketing - spotting and filling a gap in the market
  • customer service - delivering on your marketing promises
  • money - achieving small business financial success

The importance of accounting is that it allows you to plan and track business performance. Are you making a profit? Are you collecting money from your customers quickly and efficiently? Can you pay your bills on time? Most importantly, is your cash flow improving or deteriorating?

When you drive a car, it's vital to look at the fuel gauge, and it's also important to pay attention to the speedometer and the temperature gauge. It's the same when you're driving a business forward - and you need to look at your 'accounting performance indicators' to see how your business is doing. True, you will already have a gut feel about it, but the figures give objective feedback.

TRACKING BUSINESS PERFORMANCE

Accounting is a method to record how your business is performing from a financial viewpoint. So, each real life activity of your small business gets 'accounted for'. Accounting is like a language that includes a mix of words and figures.

Rather than being translated from English to Spanish, accounting translates business activities into numbers that then get organized into particular reporting formats - such as small business financial statements.

The point about this is that you can tell a lot about a business by reading these financial statements - if you learn how to understand the language of accounts.

THE ROLE OF FINANCIAL ACCOUNTS

Financial accounts are the normal annual financial statements that every business has to produce. A standard set of small business financial statements includes two key documents:

  • a balance sheet, and
  • an income statement - also called a profit and loss account

However, these are not sufficient - and possibly not even the most important documents - for managing a small business. The tax authorities normally require a balance sheet and income statement, prepared according to standard accounting principles, so that they can charge you the right amount of tax.

In addition, your bank manager will want a copy of your annual financial accounts. However, they may also want to see more regular reports on the financial state of your business - and that's where management accounting comes in.

WHAT IS MANAGEMENT ACCOUNTING?

The role of management accounting is simply to provide you with important information on the performance of your business.

One of the key points about management accounts is that there are no strict rules. An owner of a small business prepares whatever figures they think might be useful, in whatever format they choose.

Typical management reports might include:

  • a monthly cash flow report
  • cash plans and income budgets
  • a list of customers who owe money, or suppliers you owe money

For any small business, a weekly or monthly cash flow report is critical. Many small businesses fail, and the reason they fail is because they run out of cash (cash meaning actual cash or money in the bank). It is quite possible to be showing a profit on your income statement but to run out of cash in the bank.

In summary, the importance of accounting is that it allows you to monitor the performance of your home based business while sitting at your desk. If you use accounting to record what happens, and turn those records into the right formats, you can get very useful information by learning how to read your financial and management accounts.


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