The Role of Accounting Information in a Business Context - Essay Example

The Role of Accounting Information in a Business Context Introduction Success of a business depends on strategies putdown, and how well they are adhered to. This applies to all types of businesses, be it a sole proprietorship, partnership or limited company. The type of business comes with its own advantages and limitations, and the different forms of business also require different amounts of capital to start and run. For instance, a sole proprietorship will require a relatively small amount of capital and is easier to start since decision making involves only a single person, as compared to partnerships and limited companies forms of business which require large amounts to start and also involve consultation of more than a single person. To successfully run any of the three forms of business, proper accounting records have to be maintained by qualified personnel, either a management accountant or a financial accountant. This will help the owners to establish the status of the business, and that is whether it is operating on a loss or on profit and the magnitude of each. To start any of the three forms of business, a certain amount of funds is required. Mr. and Mrs. Swanson need to identify the source of finance for their business. In case their savings are not enough, they may opt to borrow either from friends or financial institutions like banks or credit cooperatives. The source of finance selected will depend on the amount required since each has a limit of the amount it can lend out. This paper seeks to investigate the various forms of business enterprises, accounting practices, as well as the sources of business capital. Question 1: Forms of business units Mr. and Mrs. Swanson will have to settle on a sole proprietorship, partnership or limited company forms of business. In order to settle on a prudent decision, there has understanding of each of the business units, based on the information below. Sole proprietorship form of business This business is owned by a single person. Most sole proprietorships are small, but a few may have many employees. Sole proprietorship is the simplest to start since the owner just decides that he or she is in the business and starts operations (Hughes et.al 2013: 106). Advantages 1. Ease of start-up and closure. Start-up requires no contracts or agreements. Thus, a sole proprietorship can be and is most often established without the services of an attorney. The only challenging requirement is a name legally accepted, and necessary license or permits. In the case, the business does not succeed, and it can be closed as easily as it was opened. This is because the owner does not have to go through legal procedures of closing down. 2. Pride of ownership. The sole proprietor takes pride in the business. To succeed in the business, a sole proprietor has to work tirelessly in the business; this entails putting a lot of effort and time. However, in the event the business fails, the sole proprietor is to blame. 3. Retention of all profits. Success of the business is a source of great satisfaction. 4. No special taxes. The owner does not pay special state and federal income taxes that corporations normally pay. 5. Flexibility of being your own boss. The sole proprietor is totally free to make decisions about the operations of the firm, unlike the manager of a large corporation who will need to seek the approval of many managers and company officials before implementing any change (Hughes et.al 2013: 107). Disadvantages 1. Unlimited liability. The sole proprietor bears every debt of the business. The debts of the business and those of the proprietor are the same things. Failure of the business is the loss of the owner’s personal property as he/she will be forced to sell assets to be able to pay creditors. 2. Lack of continuity. A sole proprietor is a business and therefore retirement, and death or incompetence put an end to the business. In the event of the owner’s illness, the business is badly affected (Hughes et.al 2013: 108). 3. Lack of money. In most cases, sole proprietorships do not get large sums of money from lenders such as banks, simply because it is only the owner who can be held responsible for the debts and his or her assets may not be enough to serve as collateral. Lenders may also be reluctant in extending loans, from the fact that sole proprietorships lack continuity. 4. Lack of diversity in management. This means the owner may suffer from fatigue, something which may affect the performance of the business (Schneeman 2010: 35). Partnership Is a form of business ownership involving two or more people, where they write a legal agreement and can be enforced in the courts. The partnership agreement states who will make the final decisions, the duties of each partner, the investment to be made by each partner, profit or loss receivable by each partner and the way to dissolve the partnership (Hughes et.al 2013: 111). Advantages 1. Ease of start-up. Partnerships are easy to form since it only involves obtaining the necessary licenses. 2. Availability of capital and credit. Partners can pool their resources thus increasing their capital base. In addition, partners have unlimited liability, a factor which encourages lending institutions to extend more credit than in the case of sole proprietorship. 3. Personal interest. General partners are concerned with the success of the business. 4. Combined business skills and knowledge. The partners may have complementary skills, meaning the weakness of one partner can be offset by another partner’s strength. Discussion among the partners also leads to reaching informed decisions. 5. Retention of profits. The partners enjoy all the profits of the business. This motivates them to work even harder so as to reap large profits. 6. No special taxes. Just like in a sole proprietorship, partners are no special taxes levied in partnerships. Disadvantages 1. Unlimited liability. General partners are faced with the risk of selling their personal assets to pay creditors since their accountability for the business debts is unlimited. 2. Management disagreements. An action by one partner affects all the other partners. When the partners disagree about decisions, policies or ethics, the business is badly affected. 3. Lack of continuity. If any general partner dies, withdraws or is declared legally incompetent, the partnership is terminated. 4. Frozen investment. Investing money in a partnership is easy but getting the money out is quite difficult. This is especially when the remaining partners lack the willingness to purchase the shares belonging to a partner who retires or wants to move to another part (Hughes et.al 2013: 112-113). Limited companies Is a type of company offering limited liability or legal protection for its shareholders but has certain restrictions on its ownership. The restrictions include, and shareholders can neither sell nor exchange ownership of their shares to other shareholders for purchase. The number of shareholders cannot exceed 50 people (Brough 2005: 6). Advantages 1. Limited liability of shareholders. Most companies are limited either by shares or by guarantee. Moreover, the creditors cannot claim on the assets of the shareholders. 2. Ease of raising capital. Ownership is divided among many shareholders, providing accessibility to additional capital more easily. 3. Transfer of ownership without affecting operations. Trading shares takes place in the Stock Exchange of a country. Ownership of shares is, therefore, transferred from one investor to another without affecting operations of the business. 4. Perpetual existence. Transfer of ownership does not affect the life of the business, thus ensuring the continuity of financial activities of the company (Ramlochan & Lalla 2002: 587-588). Disadvantages 1. Double taxation. The companies are required to pay yearly corporate tax to the government based on profits. Dividends distributed to the shareholder also affect the personal income tax because it represents income to the shareholder. 2. Heavily regulated. Trading on Stock Exchange requires the limited company to follow the financial reporting regulations of the Exchange. Compared partnerships, limited companies are subject to heavier governmental regulations. 3. Risk of takeover or loss of control. Selling shares on the Stock Exchange means anyone can purchase any amount or quality of shares, resulting in the risk of takeover or loss of control of the company by the existing shareholders (Ramlochan & Lalla 2002: 588). Question 2: Management accounting, also known as internal accounting, involves preparation of management reports and accounts with the aim of obtaining accuracy in financial and statistical information required by managers in making their daily and short-term decisions. Financial accounting involves the measurement of economic resources and obligations and changes in them. Financial accounting measures in terms of monetary units of a society in which it operates (Khan & Jain 2007: 1-10). Differences Management accounting aims at preparing reports and supplying information to management for planning, controlling and decision-making. The user of the information, therefore, is the management. In financial accounting, statements are mainly external to the business enterprise. The information is used by external agents allowing them to make sound economic decisions, and the financial statements are not adequate for the purpose of planning, control and decision-making (Khan & Jain 2007: 1-10). Management accounting involves preparation of internal reports while, in financial accounting, it involves preparation of financial statements. Management accounting is done as frequently as needed while financial accounting is done quarterly and annually. Management accounting is done for special-purposes when trying to make specific decisions while financial accounting is done on a general purpose. Management accounting pertains to subunits of the business. Financial accounting, on the other hand, pertains to the business as a whole. Management accounting is very detailed while financial accounting is highly aggregated and condensed. Management accounting extends beyond the double-entry accounting to any relevant data while financial accounting is limited to double-entry accounting and cost data (Khan & Jain 2007: 1-10). In management, accounting standard is relevant to decisions while financial accounting is a generally accepted accounting principle. In management accounting, there are no independent audits while, in financial accounting, audit is done by a Certified Public Accountant (CPA) (Weygandt, Kieso, & Kimmel 2010: 5). Question 3: Sources of finance Growing businesses especially in Europe have access to different potential sources of finance which include equity backing from wealthy individuals, bank loans and venture capital finance. However, the process of accessing the finance is quite difficult due to reasons such as lack of enough knowledge on where to go for advice and initiating the application process which is both complex and time consuming (Arundale, 2007: 119). Sources of finance available for use by business owners include the following sources: 1. Internal sources Net income not paid as the dividend. This is ploughed back into the business for expansion of an already existing business venture. a. Friends and family A business person may seek financial aid from family and friends. However, there must be a workable proposition for the friends and family members to be attracted. b. Own resources This is from the owner’s savings. He/she may as well sell some personal assets to raise the required finance (Arundale, 2007: 119). c. Fellow directors and employees To expand the business, the management may borrow money from fellow directors and employees. 2. External sources a. Business angels These are private investors who invest directly in the companies so as to obtain a share of the company. They invest smaller amounts of private equity in earlier-stage companies as compared with venture capital firms. b. Enterprise capital funds This is an initiative of the UK government, aimed at bridging the finance gap by improving access to finance by small and medium-sized enterprises (Arundale, 2007: 120). 3. Long-term a. Grants These are normally given by government research institutions to aid in the development of innovative ideas b. Leasing and hire purchase A business person may opt to lease a premise for a certain period of time. He may also decide to buy stock at higher purchase and repaying after sales. c. Government sources Government offers loans on a long duration of time, usually with low-interest rate to encourage investors. 4. Debt a. Selling stock The stock of a company can be sold on credit terms to raise funds for expansion of an already existing business. b. Banks They offer overdrafts, short, medium and long-term loans and senior debts. 5. Equity a. Private equity/ venture capital Private equity firms may sell their asset consisting of equity securities not traded in the stock exchange. b. Corporate ventures They are part of larger corporate groups which take direct minority stake in an unquoted company in a particular industry for financial gain. Moreover, mezzanine finances- sit between equity and secured debt (Arundale, 2007: 119). Conclusion The decision made by Mr. and Mrs. Swanson will be based on the various factors discussed above. However, the success of their biscuits business will depend on how well they adhere to the various aspects of starting and running a business. Depending on the available human force, it will be easier to determine the form of business to settle on. In this case, since they want to build a long-term business venture, the most suitable business for them would be a limited company because it has a perpetual continuity. They will however need to work well on the business plan to minimize losses accrued from poor operations. Evaluating their current status of finance, they will be able to determine the most suitable source of increasing their capital base since a limited company requires high finance levels. Recommendation Many business ideas end up unimplemented. This is due to lack of enough finances to roll out the programs or lack of proper advice on the best ways of implementation. I would suggest that governments should come up with proper mechanisms of tapping such ideas and incubating them for full development. Governments should increase the avenues for providing funds especially to start-ups. . Bibliography ARUNDALE, K. (2007). Raising venture capital finance in Europe a practical guide for business owners, entrepreneurs and investors. London, Kogan Page Ltd. http://www.books24x7.com/marc.asp?bookid=21322. BROUGH, G. H. (2005). Private limited companies: formation and management. Edinburgh, Thomson/W. Green. HUGHES, R. J., PRIDE, W. M., KAPOOR, J. R., PRIDE, W. M., HUGHES, R. J., & KAPOOR, J. R. (2013). Business Foundations. South-Western. KHAN, M. Y., & JAIN, P. K. (2007). Management accounting: text, problems and cases. New Delhi, Tata McGraw-Hill. RAMLOCHAN, D., & LALLA, C. (2002). Principles Accounts (trinidad Ed). Pearson Education South Asia. SCHNEEMAN, A. (2010). The law of corporations and other business organizations. Clifton Park, NY, Delmar Cengage Learning WEYGANDT, J. J., KIESO, D. E., & KIMMEL, P. D. (2010). Managerial accounting: tools for business decision making. Hoboken, NJ, Wiley Read More