Business Accounting: Principles, Practices, and Financial Statements
Accounting and Accounting Information Systems in Business
Running a business is a complex task that requires relevant and timely information to make informed decisions. A crucial aspect of this information system is accounting.
What is Accounting?
Accounting systematically examines and records a company’s assets to understand its financial situation at any given moment.
Accounting Standardization
Given the vast and heterogeneous nature of business assets, standardized accounting rules are essential. These rules enable businesses to use a common language when recording their daily operations, unifying criteria and statutory accounting regulations.
In Spain, the General Accounting Plan (PGC) is a legally binding text that defines how accounts represent heritage elements. It provides a code, name, definition, and operational guidelines for each account. Each element is represented through an instrument called a “crosshead,” reflecting the initial situation and changes over the financial year.
Accounting Books
Companies are required to maintain organized accounts, appropriate to their operations, and produce regular inventory and balance sheets. These are recorded in accounting books, which must be submitted to the Mercantile Registry for legalization before use. The books must be chronological, clear, without erasures, and present a true and fair view of the company’s assets. They must be preserved in an organized manner for six years.
Types of Accounting Books
- Mandatory: Inventory and annual accounts book, journal, and record book.
- Voluntary: General ledger.
- Auxiliary: Cash book.
Annual Accounts
Annual accounts comprise the balance sheet, the profit and loss account, and the notes to the financial statements. They form a unit and must be clearly written, providing an accurate picture of the company’s financial position. These records are public and accessible to stakeholders. The company’s administrators are responsible for preparing them at the close of the fiscal year, adhering to accounting principles. They are signed by the business owner, partners, or administrators.
Structure of Annual Accounts
- Abbreviated Model: Used by partnerships, simple limited partnerships, and individual entrepreneurs.
- Standard Model: Used by public limited companies (SA) subject to audit, limited partnerships, and worker-owned limited companies (SL).
Balance Sheet
The balance sheet presents the company’s financial situation at the end of the year, including separate listings of assets, equity, and liabilities, following the PGC guidelines.
Profit and Loss Account
The profit and loss account details income and expenses separately, showing the result of the financial year. The difference or balance can be a credit (Income > Expenses) or a debit (Income < Expenses).
Types of results include:
- Operating (Operating Income and Expenses)
- Financial (Financial Income and Expenses)
- Extraordinary (e.g., fire, theft)
- Before taxes
- Net
Self-Financing: Retained Earnings and Reserves
Reserves are profits that are not distributed to partners but are instead allocated for new investments. This represents real savings, derived from the results at the end of the financial year.
Types of Reserves
- Legal: 10% of profits up to 20% of equity.
- Statutory: According to the statutes of each company.
- Voluntary: Decided by the partners.
Self-financing increases the book value of the company because it increases its own resources. The book value is calculated as (Capital + Reserves + Pending Results) / Number of Shares.
Advantages of Self-Financing
- Greater autonomy.
- Avoidance of debt.
- Cost-effective financial formula.
- Suitable for SMEs.
- Reduced tax burden on partners.
Disadvantages of Self-Financing
- Opportunity cost.
- Potential conflict between shareholder and management interests.
- Possible loss of shareholder value.
Self-Financing: Depreciation and Provisions
These are funds generated by the company from undistributed profits. They are used to cover depreciation of fixed assets, preserving the company’s assets by creating amortization and provision funds to offset potential losses.
Causes of Depreciation
- Depreciation.
- Aging.
- Wear and tear.
- Obsolescence.
Calculation Methods
Linear systems and systems based on work or a series of numbers are used to calculate depreciation.
Provisions are set aside for specific expenses or losses that are unforeseen and imprecise. They are deducted from profits before calculating the net profit and are accounted for as expenses, similar to depreciation.
Business Growth: Internal and External
Companies naturally aim for growth due to economies of scale, division of labor, machine capacity, supplier pricing, and financing opportunities.
Internal Growth
Internal growth involves new investments within the company to increase its capacity.
Forms of Internal Growth
- Specialization:
- Market penetration.
- Increased market share.
- Introducing products into new markets.
- Diversification:
- Horizontal diversification (improved or new products).
- Vertical diversification (complementary product offerings).
- Unrelated diversification (developing new products).
External Growth
External growth involves the acquisition, participation, or control of existing businesses.
Forms of External Growth
- Mergers.
- Takeovers.
- Corporate participation.
- Partnerships and cooperation between companies.