Understanding Business Accounts: A Comprehensive Guide

Posted on Sep 5, 2024 in Economy

What are Accounts and Why are They Necessary?

Accounts are financial records of a firm’s transactions that are kept up to date by accountants, who are qualified professionals responsible for keeping accurate accounts and producing the final accounts.
Every end of the year, final accounts must be produced, which give details of:
  • Profits and losses made.
  • Current value of the business.
  • Other financial results.
Limited companies are bound by law to publish these accounts, but not other businesses.

Financial Documents Involved in Buying and Selling

Accountants use various documents that are used for buying and selling over the year for their final accounts. They can help the accountant to:
  • Keep records of what the firm bought and from which supplier.
  • Keep records of what the firm sold and to which customer.
These documents are:
  • Purchase orders: Requests for buying products. It contains the quantity, type, and total cost of goods. Here is an example.
  • Delivery notes: These are sent by the firm when it has received its goods. It must be signed when the goods are delivered.
  • Invoices: These are sent by the supplier to request payment from the firm.
  • Credit notes: Only issued if a mistake has been made. It states what kind of mistake has been made.
  • Statements of account: Issued by the supplier to their customers, which contains the value of deliveries made each month, the value of any credit notes issued, and any payments made by the customer. Here is an example.
  • Remittance advice slips: Usually sent with the statement of accounts. It indicates which invoices the firm is paying for so that the supplier will not make a mistake about payments.
  • Receipts: Issued after an invoice has been paid. It is proof that the firm has paid for their goods.

Methods of Making Payment

There are several ways goods can be paid for:
  • Cash: The traditional payment method. However, many businesses do not prefer to use cash for several security reasons. When cash is paid, a petty cash voucher is issued by the person in charge of the firm’s money, who also signs it to authorize the payment. The person making the purchase signs it too to show that the money has been received.
  • Cheque: It is an instruction to the bank to transfer money from a bank account to a named person. To do this, the bank needs a cheque guarantee card, saying they have enough money in their account to support this payment.
  • Credit card: Lets the consumer obtain their goods now and pay later. If the payment is delayed over a set period, the consumer will have to pay interest.
  • Debit card: Transfers money directly from the user’s account to that of the seller.

Recording Accounting Transactions

Businesses usually use computers to store their transactions so they can be easily accessed, calculated, and printed quickly.

Who Uses the Financial Accounts of a Business?

  • Shareholders: They will want to know about the profit or losses made during the year and whether the business is worth more at the end of the year or not.
  • Creditors: They want to see whether the company can afford to pay their loans back or not.
  • Government: Again, they want to check to see if correct taxes are paid. They also want to see how well the business is doing so that it can keep employing people.
  • Other companies: Other companies want to compare their performance with a business or see if it is a good idea to take it over.

What do Final Accounts Contain?

The Trading Account

This account shows how the gross profit of a business is calculated. Obviously, it will contain this formula:

Gross profit = Sales revenue – Cost of goods sold

Note that:
  • Gross profit does not take into account overheads.
  • Only calculate the cost of goods sold and forget the inventory.
  • In a manufacturing business, direct labor and manufacturing costs are also deducted to obtain gross profit.

The Profit and Loss Account

The profit and loss account shows how net profit is calculated. It starts with the gross profit acquired from the trading account and, by deducting all other costs, comes up with net profit.
Depreciation is the fall in value of a fixed asset over time. It is also counted as an indirect cost to businesses.
As for limited companies, there are a few differences from the normal profits and loss account:
  • Profits tax will be shown.
  • It needs to have an appropriation account at the end of the profits and loss account. This shows what the company has done with its net profits, in other words, how much retained profit has been put back into the company.
  • Results from the previous year are also included.