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Accounting, Impact on Organizations and Society

Accounting is a systematic process of measuring and reporting to various users relevant financial information for decision making that deals with the economic activity of an organization. Accounting has had a significant impact on the economic development of societies and the organizations therein throughout modern history, as investors, creditors, regulators, and other interested parties have sought to measure the performance of corporations and other business enterprises.

Conceptual Overview

History

The Italians of the Renaissance (14th through 16th centuries) are considered to be the fathers of modern accounting. They elevated trade and commerce to new levels and, like no other group before them, sought better methods of measuring their performance and profitability.

The modern double entry accounting system is often credited to the work of Fra Luca Bartolomeo de Pacioli, an Italian mathematician, Franciscan monk, and a collaborator of Leonardo da Vinci. He described a method of accounting that was being used by many merchants during the Italian Renaissance. The system he described used journals, ledgers, and the “double entry” accounting system of debits and credits still in use throughout the world. Debit comes from the Italian debito, which comes from the Latin debita, which means owed to the proprietor or an asset of the proprietor. Credit comes from the Italian credito, which comes from the Latin credo, meaning trust or belief in the proprietor or owed by the proprietor. The system of debits and credits is used to enter business transactions into the accounting system. This leads ultimately to the preparation of financial statements, which are then used to measure economic business performance.

Accounting gained a much greater importance in society during the industrial revolution in the United States, when businesses expanded in physical size, the number of employees, and the degree of mechanization. Accounting systems were needed to account for this increased productivity and to provide quantitative, economic ways to measure performance.

The next major advance in accounting occurred in the 1900s, when companies in the United Kingdom and the United States were required to prepare financial reports that described the activities of commercial organizations. This lead to the promulgation of what is now known as generally accepted accounting principles (GAAP), the body of guidance that organizations are required to follow when they prepare financial statements.

Financial Statements

Each of the four primary financial statements is designed to provide different, but interrelated, information about a corporation's financial condition. The income statement (earnings statement, profit and loss statement, statement of operations) provides information about a company's profitability, measured as the difference between revenues and expenses. Many investors and other interested parties consider corporate profits to be the best measure of a company's performance and prospects for the future.

The balance sheet (statement of financial position) provides information about a company's assets (things owned by the organization), liabilities (things owed to others), and equity (the arithmetic difference between assets and liabilities, representing the residual claim of the owners of the organization).

The statement of cash flows provides information about an organization's inflows (primarily from customers and clients) and outflows (primarily to creditors) of cash. Specifically, the statement provides information about the cash effects of operations, investing transactions, and financing activities during a period of time. Reporting the inflows and outflows of cash helps investors, creditors, and other interested parties understand what is happening to a company's most liquid asset: cash.

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