Accounting Cycle:

Learning Objective:

1. Define and explain accounting cycle.

Accounting cycle refers to a complete sequence of accounting procedures which are required to be repeated in same order during each accounting period. Accounting cycle includes:

Recording:
First, all transactions should be recorded in the journal or books of original entry known as subsidiary books as and when they take place.

Classifying:
All entries in the journal of books of original entry should be posted to the appropriate ledger accounts to find out at a glance the total effect of all such transactions in a particular account.

Summarising:
Last stage is to prepare the trial balance and final accounts with a view to ascertaining the profit or loss made during a trading period and the financial position of the business of a particular date.

Accounting Cycle

58 VADYBA / MANAGEMENT. 2006 m. Nr. 2(11)

THE RELATIONSHIP BETWEEN BUSINESS FINANCE AND ACCOUNTING

Jana Kajanov
The contemporary economic theory and practice often discuss the problem of business finances and possibilities of acquiring and utilizing financial sources, the question of expended costs, expected revenues and accounting as well as the results of the economic efficiency and mutual relationships among these categories. However, some differences in interpreting individual basic concepts arise at various levels of confrontation, new ideas, approaches and tendencies. This paper is aimed to present the problem and basic characteristics of business finances and accounting as well as to point to their mutual action. Inasmuch as the present period is characterized by a rise and an expansion of the single market, the comparable and well-grounded information about individual participants of the common market is necessary. Key words: business finances, accounting, accounting system, harmonization of accounting.

Business finance and accounting is not the same thing. Accounting is concerned with financial record keeping, the production of periodic reports, statements and analyses, and the dissemination of information to

managers and, to some extent, to investors and the world outside the business. It is also much involved with the quality, relevance, and timeliness of its information output. Obviously financial decision-makers will rely heavily on accounting reports and the accounting database generally. Knowledge of past events may be a good pointer to the future, so reliable information on the past is invaluable. However, the role of the financial manager is not to provide financial information but to make decisions involving finance. In smaller business, with narrow portfolios of management skills, the accountant and the financial manager may be the same person. In the large business the roles are most likely to be discharged by different people or groups of people [1]. Under the continual pressure of needs of the economic practice the science about business finances has been permanently developing and achieving remarkable results. From the aspect of the theoretical knowledge business finances gather information from the microeconomics, they are linked up to the business-economic science, closely associated with accounting and employing mathematical methods and statistics. Business finances are the system of monetary relations, into which the corporation on acquiring financial sources enters, on their placing and binding in individual property components with the aim to exploit productively the property and to distribute the results achieved. Monetary relations constituting the content of business finances can be divided from the aspect of their character, from the viewpoint of subjects among which they are formed and according to the sphere of the corporate activity, or from other aspects. The division of monetary relations is shown in Table 1.

Table 1. The division of monetary relations

According to character - budget relations, - credit relations, - insurance relations, - realization relations, According to subjects - relations within the company which mediate, as a rule, a change in the form of the property, - relations between the company and other economic subjects, According to sphere of the corporate activity - relations arising during the acquisition of financial sources, - relations associated with the placement of acquired financial sources into individual property components, namely into the long-term movable and immovable property, long-term financial assets (securities, etc.), supplies, receivables and available means of finances.

An inevitable condition of the correct management of business finances is the reliable and early information. The company can gain it from:

external environment the so-called boom information, internal environment, i.e. the information from the corporate information system. The information sources utilizable in managing business finances are described in Table 2. VADYBA / MANAGEMENT. 2006 m. Nr. 2(11) 59

Table 2. Information sources

information sources external entrepreneurial environment competitive environment legislation potential opportunities and threats internal calculations accounting reporting statistics

Business finances constitute a dominant part of the whole economics of the company and of its management. Their presence is manifested in all corporate activities. The management of business finances is oriented towards the following spheres: identification and ensuring of financial sources for running the company, choice of the optimum financial structure, financial analysis, management of the long-term and current assets, allocation of financial sources, distribution of the economic policy, innovation processes, etc. Business finances cannot be isolated from other economic disciplines describing and characterizing various corporate activities. It is therefore natural that if business finances are pursued, for example, in relation to the microeconomics, macroeconomics, corporate economics, accounting, public finances, financial analysis, etc., a very narrow connection can be observed between the business finances and accounting. The information provided just by the accounting is necessary for the correct and valuable decisions. The point in question is primarily basic accounting statements, which monitor property components of the company, the capital and financial structure, corporate costs and revenues, economic results, a survey of monetary flows as well as the further information describing economic operations proceeding in the company. The three basic financial statements are as follows: balance sheet, profit and loss account, cash flow statement. These statements provide a very valuable source of information for financial managers who work within the business and for investors, potential investors, and their advisers. It is likely that managers will have access to information beyond that which it is made public [1].

Financial accounting statements

The balance sheet is a statement of the manner in which the business holds its wealth, how much of its wealth it has in each category, how much of the wealth that the business controls is committed to outsiders, and the net wealth of the business. This net wealth obviously belongs to the shareholders. The balance sheet shows the assets, liabilities, and net worth of a particular firm at a particular time. The assets are what the firm owns, and the liabilities are what it owes. Net worth is the difference between assets and liabilities. The profit and loss account is a statement that sets out a summary of the trading events that will have affected the wealth of the business over a particular period, the amount by which each type of event has affected the wealth, and the resulting net effect on wealth. The statement also goes on to show how any net increase in the businesss wealth over the period has been deployed. Wealth in this context is not restricted to cash. It is all the things that have economic value to the business, net of such obligations that it may have to outsiders in respect of any part of its wealth. Things that have economic value to the business include, for example, an office building owned by the business and some money owed to it by a customer who has bought some of the businesss output of goods or services on credit. Outside obligations might include an amount owed to a loan stockholder. The profit and loss statement or income statement shows the revenues, expenses (costs), and profit (or net income) for a particular firm for a particular period. The cash flow statement is simply an analysis of the cash received and paid out by the business during a period. It is arranged in such a way that it will enable readers to derive helpful insights to the sources and 60 VADYBA / MANAGEMENT. 2006 m. Nr. 2(11) uses of cash over the period. It may seem strange that one particular asset (cash) is highlighted in this way when others, e.g. stock, are not. A firms cash flow is the net amount of money it actually receives in a given period. One of the big problems in starting a new business is that cash flow at the beginning, before the firm has succeeded in finding customers, is bound to be low. This is why firms need financial capital to start up so that they can continue to pay expenses for a while even with little cash flowing in [7]. Most businesses actually produce these statements much more frequently for their own internal, managerial purposes. The statements are often used for internal purposes as aids to financial planning in that the data that they contain will be based on plans and forecasts. Accounting belongs among crucial factors of the functioning of business activity. It is an important

economic discipline mainly from the viewpoint of needs of the financial management [2]. It represents the informational system, which defines, quantifies and evaluates firms economic activity. Many external as well as internal users of accounting information employ this informational source, which enables one to facilitate through its redeemable ability and accounting statements, the minimalization of risks associated with performing the business activity or with a course of the managerial and decision-making processes. In Charles J. Woelfels opinion accounting is the language of business [3]. Each business entity must know what it is doing and where it is going financially. The accounting system must periodically transfer and communicate its outputs to interested parties. If they are to be useful, the outputs must mean what informed users think they mean. Management has the main responsibility to be sure that financial statements of the firm are reliable and fair. Nowadays accounting plays an important role in the market economy. It should provide faithful, clear, precise and complete data about the proprietary and financial situation in the particular enterprise or in the accounting unit and, and the same time, it should give the well-grounded data for decision-making. Accounting is, however, also the enterprise discipline, which was developed mainly as an instrument of the enterprise management. A precondition of the efficient enterprise management is the organization of the suitable and reliable information system. Accounting is one of the components of the information system, which is closely associated with the existence of business and companies as the basic forms of organizing their functioning. The reality of the contemporary research carried out in the accounting field throughout the world and also in our country has shown that accounting is not only the practical but also highly theoretical system of knowledge.

The qualitative requirements for the accounting information

The fundamental qualitative requirements for the accounting information from the aspect of users needs include: a) usefulness, b) significance, c) understandability, d) reliability, e) comparability, f) credibility, g) completeness, h) punctuality.

The usefulness of the information is judged from the aspect of its significance and declarative ability. The information is considered significant if its absence has a negative influence on the users decision. The understandability of the information lies in the possibility to understand its content by a person who has the sufficient knowledge of business and other activities in the company. The comparability of the information is based on the fact that the accounting unit did not change applied accounting methods and accounting principles during the accounting period. The information is reliable if it gives users a guarantee of credible, complete and early description of the corporate transactions and economic events. Adhering to accounting in the respective period, by considering potential risks and losses during the accounting period, etc, ensures the credible description of facts. The completeness of the information represents recording of all events and economic operations, which relate to the given problem from the factual and temporal point of view. The punctuality of the information is associated with its usability regarding the given decisionmaking process, inasmuch as the information delivered too late can be out-of-date from the aspect of its application in making the decision. The hierarchy of qualitative requirements for the information is illustrated in Figure 1. VADYBA / MANAGEMENT. 2006 m. Nr. 2(11) 61

Fig. 1. The hierarchy of qualitative requirements for the information [4] Accounting system

In the market economy the accounting system can be divided into several components, which differ one from another by certain characteristic features, by a validity of the methodology of acquiring data, their processing and by compiling of the overall surveys. These information subsystems form components of the accounting system. The accounting system is formed by: financial accounting, managerial accounting, intraorganizational accounting, tax accounting. Financial accounting has a legally prescribed content and form, and it is an object of the verifying activity of auditors. Simultaneously it respects legal regulations for the calculation of the income tax and other legal norms. The primary function of the financial accounting is the provision of the information, which is trustworthy and proved. The financial accounting gives a complete set of information about the amount and structure of the business property, about its sources, costs, revenues, and the economic outcome. In addition to fundamental data, modern trends of the financial accounting reveal also the information about the competence

of the company to rationally finance its activity, to choose the optimum structure of financing sources and to optimally allocate these sources into assets. This information has a high value and constitutes a main part of the content of the financial accounting. The financial accounting information is published at regular time intervals, once a year. The significance of the accounting lies primarily in the ability to differ and quantify individual categories of the economic activity of the company (property, fixed assets, equity, costs, and revenues) as the only economic discipline. It enables one to express a course of the economic activity comprehensively, completely and continually. Managerial accounting represents qualitatively a higher form of the interorganizational accounting. It forms the subsystem which depicts and examines the economic reality and which is focused on the records, classification, grouping, analysis and incorporation of acquired information into surveys constituting an information base employed by executives in making decisions about the controlling activity. The managerial accounting is oriented to the future and is based on the information provided by the financial accounting, which demonstrates the truthful reality. It completes the above-mentioned information by facts about the demanded state. In contrast with the financial accounting the time horizon of submitting the information is irregular, but it follows the particular conditions and the necessity of executives. It usually represents a shorter period than the financial accounting. Managerial accounting interprets and analyses the information obtained from the inter-organizational accounting, evaluates potential changes affecting the results of the companys economy, the choice of alternatives in decision-making processes and projects consequences of the decision into the budget of the accounting entity. Besides accounting, it also incorporates the budgeting, calculation system, information for the responsible accounting and the information for decision-making processes in the sphere of investment, prices, assortment structure, etc. Understandability Materiality Comparability Reliability Faithful representation Completeness Timeliness Benefit Costs Usefulness of information 62 VADYBA / MANAGEMENT. 2006 m. Nr. 2(11) The basic roles of accounting consist of the provision of information: for financial accounting, for common control of costs,

about costs, revenues and rentability of outputs, namely for the internal management, price control and formation of prices, about costs and revenues of inter-company units from the aspect of their responsibility. The intraorganizational accounting, which was denoted in the past also as the cost accounting, operating accounting, internal or analytical accounting, is oriented to phenomena proceeding inside the company. It is not legally defined because the corporate management is completely in the competence of top managers. Its role is to ensure expended costs and it is the main instrument of the internal management of the company. The information in the intraorganizational accounting serves for the corporate management to investigate factors influencing the positive or negative results of the economic activity. The data provided by it are confidential and with respect to their possible misuse they are not accessible to external users. The intraorganizational accounting should provide for the financial accounting: data about the change in the state of supplies produced by the own activity, data about own costs of the activated own outputs, data about appraising of supplies and other outputs achieved by the own activity, data about the temporal distinction of costs (revenues) and about the formation of reserves. The tax accounting is functioning on equal principles, such as financial accounting, but it respects limitation conditions of the law of income tax for the sphere of costs. The exact wording is incorporated in the law No 595/2003 in the Collection of Laws about tax incomes, which follows from alterations and supplements executed by a law No 43/2004 of the Collection of Laws, law No 177/2004, law No 191/2004, law No 391/2004, law No 538/2004, law No 539/2004, law No 659/2004, law No 68/2005, law No 314/2005, law No 534/2005 and law No 660/2005. Between the financial and tax accounting the relatively low number of differences exist and, therefore, companies systematically perform the clearance of financial accounts during the bookkeeping period and at the end of this period transform the summarized information in accordance with the law No 595/2003 of the Collection of Laws about income taxes in the version of later amendments. This information is designed for external users, but it is employed also for internal needs of the company. The calculation of the tax obligation of the accounting unit, primarily of the income tax, value-added tax, consumption tax and of other tax commitments is dependent on information documents which are obtained for a company from the financial accounting. With regard to this necessity the financial accounting must be

modified in such a way in order that the achieved results should serve as adequate and reliable information for tax purposes. This modification consists of the correction of the accounting profit to the tax base. After adjustment of the tax base considering deductible and non-deductible items the rate of the tax obligation is calculated. All indicated subsystems of the accounting system, such as financial accounting, managerial accounting, intraorganizational accounting and tax accounting do not exist in our conditions in individual companies separately. They are closely interconnected, mutually dependent on each other and affecting one another in every moment. The other situation can be followed in advanced market economics where these components exist separately even despite their mutual interconnection. In real terms, it is impossible to determine the precise boarders where individual components end or begin. A relationship among the above-indicated components of the accounting system is illustrated in Fig. 2. Accounting is an inevitable part of the enterprise activities because it gives a global picture of the course and results of the economic activity, reveals existing problems and provides the background data for decisionmaking processes in every enterprise. The users of accounting information are interested in this discipline mainly due to its basic functions, namely: to give information about the measure of rentability achieved by an enterprise in fulfilling its basic function, i. e. in transforming input factors into output ones, to ensure the respective level of governance and protection of the capital entrusted to the enterprise management by various investors, to ensure other functions, e. g. in relation to tax authorities, stock exchanges, etc. VADYBA / MANAGEMENT. 2006 m. Nr. 2(11) 63

Fig. 2. The relationship among components of the accounting system

Accounting is based on the period reporting of financial data. The basic accounting cycle includes: recording business transactions, posting debits and credits to a general ledger, making adjustments to the general ledger, closing the books, preparing financial statements.

Harmonization of accounting

In the Slovak Republic, accounting is at present strongly influenced by a dynamically changeable legislation. It is impossible for this discipline to avoid the around-proceeding changes arising from the

continual development of the entrepreneurial and competitive environment, increasingly expanding globalization of business, growth of supranational corporations, integration into the European Union, etc. Current world-wide trends observed in the financial management of enterprises call for certain legislative steps and changes leading to various discussions about the accounting law or its amendments and regulations. Modern trends point to the important task of ensuring the approximation and correspondence of the generally valid accounting rules, statements, principles and procedures applied in various countries in the world. The approximation should proceed to such a degree that the submitted statements might be understandable to every adequately educated user. The main objective is to compare data with the sufficient redeemable power of the final accounts of various companies and also to compile correctly the consolidated accounts of supranational groups. Differences in the national accounting principles are economically relevant with regard to the growing economic globalization. The management overpasses state borders and proceeds on a worldwide scale it undergoes the internationalization. The globalization leads to the development of the international financial management which lays down the new tasks on accounting, especially the requirement for the approximation of accounting rules and procedures of different countries that can be fulfilled in the form of harmonization (achievement of comparability) or standardization (unification). The Slovak Republic as a member state of the European Union (EU) has its legal accounting regulation in harmony with guidelines of the EU Council regulating the accounting field. In 2002, the EU Parliament and Council issued a decree No 1606/2002 about the application of international accounting standards, which claimed the proper implementation of IAS into our legal regulation. From the worldwide aspect the harmonization of accounting is directed to the international accounting regulation which is based on the convergence of two principal world theoretical approaches to accounting: IAS/IFRS and US GAAP. Harmonization of the accounting in all over the world, with a view to provide transparent and comparable information in the financial statements is one of the leading paradigms of contemporary accounting. In all countries, it does require a rigid application of the true and fair vies principle [6]. The goal of the international harmonization of accounting is to achieve the international comparability of two or more national accounting systems through the adjustment of international accounting directions and thereby to

Financial accounting Managerial accounting Accounting and statements Tax accounting External information Management and control Budgeting Intraorganizational accounting 64 VADYBA / MANAGEMENT. 2006 m. Nr. 2(11)

achieve also their annual financial statements. The greatest benefit that would flow from harmonization would be the comparability of international financial information. Such comparability would eliminate the current misunderstanding about the reliability of foreign financial statements and would remove one of the most important impediments to the flow of international investment. Harmonization would save time and money that is currently spent to consolidate divergent financial information when more than one set of reports is required to comply with the different national laws or practice. The process is directed to the elimination of several differences existing in the access of national accounting systems to individual items of the annual financial statement. Both harmonizing accounting systems will approximate each other by their contents, which will enlarge the space for concurrent common international accounting procedures. The role of the harmonization is to ensure the international compatibility of information revealing the financial situation and economic results of entrepreneurial subjects, no matter whether they are individual enterprises or their organizational and economic groupings.

Conclusions

The success of managing business finances is based essentially on the knowledge of the economic characteristics and mutual relations ongoing in the company. An integral part of these relations are also business finances and accounting. Accounting is an inevitable part of the enterprise activities because it gives a global picture of the course and results of the economic activity, reveals existing problems and provides the background data for decision-making processes in every enterprise. Business finances are the system of monetary relations, into which enters the corporation on acquiring financial sources, on their placing and binding in individual property components with the aim to exploit productively the property and to distribute

the results achieved. Their mutual interconnection results from the demonstration of financial relations and flows in accounting and also from the accounting information employed in the field of the management of finances. As regards the conducting of accounting, outputs and characteristics may be regulated into the form required by financial managers giving stress on punctuality, accuracy and relevance of the information provided. However, the correct decisions are linked also with the ability and qualification of the human potential. The ability to manage business finances successfully belongs to important aspects and competitive advantages of the contemporary company.
REFERENCES 1. McLaney, E. Business Finance. Theory and Practice. New York: Prentice Hall, 2003. ISBN 0273-67356-4. 2. Kajanov, J. Accounting and pedagogical process. In: Proceedings of the International Scientific Conference on Finance and accounting in science, tuition and practice Zln: Tomas Bata Universizy in Zln, (proceedings on CD), 2005. ISBN 80-7318-288 2. 3. Woelfel, Ch. J. An introduction to Financial Accounting. Goodyear Publishing Company, Inc., Santa Monica, California, p. 17, 1980. ISBN 0-8302-4059-4. 4. Kovanicov, D. et al. Financial accounting. World concept. Praha: POLYGON 2002. ISBN 807273-062-2. 5. International Accounting Standards 2000. (Slovak translation publicized HZ Koice, with agreement IASC). Bratislava: Iura Edition. ISBN 80-88715-89-X. 6. losrov, A. losr, R. Fundamental Aspects of the Accounting Theory within the Context of Market Economy. In: Economy journal, 53, n. 2, p. 184-197, 2005. ISSN 0013-3035. 7. Fischer, S., Dornbush, R., Schmalensee, R.: Economics. McGraw-Hill Company, Inc. 1988. ISBN 0-07-017781-3.