Accounting

Profession
Ethics
Chapter 1: Introduction to
the accounting profession

After studying this lecture

carefully, you should be
able to:
• Explain the scope and
uses of accounting.
• Explain different ways in
which entities can be
legally organized.
• Outline the role of national
and international
regulators.
 Purposes and
users of
accounting
Accounting began as a
practical activity in response
to perceived needs. It has
progressed in the same way,
adapting to meet changes in
the demands made on it.
Where the needs differed in
different countries,
accounting developed in
different ways.
If information is to be useful, then some obvious
questions arise, useful to whom and for what
purposes? A number of different types of people
are likely to be dealing with business entities:
Managers
These are the people who have to
make decisions, both day-to-day and
strategically, about how the scarce
resources within their control are to be
used.
They need information that will enable
them to predict the likely outcomes of
alternative courses of action. As part of
this process, they need feedback on
the results of their previous decisions
in order to extend successful aspects
of the decisions, and to adapt and
improve the unsuccessful aspects.
Investors
A large entity may have many
investors who are not the managers of
the entity. Some investors are owners
(the shareholders); others provide
long term debt capital. These
providers of capital want to know
about the risk inherent in, and return
provided by, their investments. They
need to determine whether they
should buy, hold or sell their
investments. Shareholders are also
interested in information to assess the
ability of the entity to pay them a
return (known as a dividend).
Other lenders

Lenders (such as banks) are

interested in whether loan
repayments, and the
interest attaching to the
loans, will be received when
due.
Employees
Employees and their
representative groups are
interested in the profitability
of their employers. They also
want to assess the ability of
the entity to continue to
provide remuneration,
retirement benefits and
employment opportunities.
Suppliers
These want to be able to
assess whether amounts
owing will be paid when
due. Suppliers are likely to
be interested in an entity
over a shorter period than
lenders, unless they depend
upon the entity as a major
continuing customer.
Customers
Customers need
information about
the continuance of
an entity,
especially when
they have a long-
term involvement
with the entity.
Governments
Governments and their
agencies need
information in order to
regulate the activities
of entities and to
collect taxation, and as
the basis for national
income and similar
statistics.
The public Entities affect members of the public in a variety of
ways; for example, entities pollute the atmosphere
or despoil the countryside. Accounting statements
may give the public information about the trends
and recent developments of the entity and the range
of its activities. Environmental information, broadly
defined, has become much more important in recent
years.
This list leads to a very important distinction, namely that between management
accounting and financial accounting. Management accounting is that branch of
accounting concerned with the provision of information intended to be useful to
management within the business.
Financial accounting is the branch of accounting intended for users outside the business
itself, The above description of these groups is closely based on a document now called
The Conceptual Framework for Financial Reporting of the International Accounting
Standards Board (IASB)
It is clear from the previous paragraphs that the needs of users to whom financial
accounting is addressed are very diverse, and so the same information will not
necessarily be valid for all their purposes. The IASB is mainly concerned with groups 2
and 3 above.
However, the Framework (paragraph 1.10) suggests that there are other users, such as
regulators and members of the public may find general purpose financial reports useful.
However, since the needs of users vary and since different users predominate in
different countries, the diverse national environments (cultural, political and economic)
Now think!
In what various ways can
and should financial
reporting (the end product
of financial accounting) be
different from reporting to
management? Think about
the different purposes of
these two types of
accounting, and how these
purposes might affect their
operation.
Entities
The word “entities” is the word used by the
International Accounting Standards Board (IASB).
It is a word designed to cover all ways of
organizing business operations. At one extreme,
a business can be run by a single person with no
other owners and no organization that is legally
separate from the person. This business might be
called a ‘sole trader’.
The sole trader has unlimited liability for the
debts of the business and pays personal income
tax on the profits. If the business is to be sold,
then the trader must sell the individual assets
and liabilities because there is no separate legal
entity to sell. Nevertheless, the trader keeps the
accounts for the business distinct from other
personal activities, in accordance with the
‘business entity’ convention. Otherwise, the
success of the business and the basis for
calculating tax would be unclear.
As the business becomes larger, it may
be useful to have some joint owners
(partners) who can contribute skills and
money. The business then becomes a
partnership, which is formalized by a
contract between the partners that
specifies their rights and duties.
In common law countries, the partners
are legally responsible for its assets and
liabilities and they pay tax on their
share of the profits. Nevertheless, it is
possible to set up a ‘limited liability
partnership’ (LLP) and, for example,
many accountancy firms have done so.
The purpose of this is to seek to protect
the partners from some part of the
liabilities of the business if there are
large legal cases.
The complete legal separation of owners from
their business is achieved by setting up a
company, usually one involving limited liability
for the owners.
The ownership of the company is denoted by
shares, which can be transferred from one
owner (a shareholder) to another without
affecting the company’s existence.
A company is a separate legal entity from its
owners. The company can buy and sell assets,
and it pays tax on its own profit.
Entities in more detail
Now think!
How should the
provision of accounting
information to users
outside the entity be
controlled? Think of as
many regulators and
ways of regulating as
you can.
Accounting could be regulated in
many ways, for example by:
the government, parliament,
the market through through laws or
ministries codes

a governmental
a stock the accountancy
regulator of
exchange profession
stock exchanges

a committee of an independent
members from foundation or
large companies trust.
The IASB’s list of
qualitative
characteristics of
accounting
information