Information from accounting records is important for making business decisions. What are some examples of business decisions that require the use of accounting information?
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The accounting equation is important to businesses as well as individuals. What are the various parts of the accounting equation? Explain how the accounting equation can be used to analyze the financial position of a business or an individual.
Some examples of business decisions that require use of accounting information are discussed below:
(1): Planning for growth and expansion – When a business makes future business plans and models it first analyses its historical accounting data to gain a better understanding of its revenue and profitability trends and then determine the impact of the decisions being taken on the plan. A company may plan for introduction of a new product and will use accounting information to find the impact of introduction of the new product on its profitability (through profitability ratios like gross margin, net income margin, ROE), on its solvency (through ratios like Debt equity and debt asset ratio), on its liquidity (through ratios like current ratio, quick ratio).
(2): Taking decisions with regards to payment of dividends, reduction of debt, buying new machines and equipment – For these decisions free cash flow comes into picture. Free cash flow can be found from cash flow statements and is calculated by deducting capital expenses from cash flow from operating activities.
The accounting equation is: Assets = Shareholder’s equity+Liabilities
As we can see from the above equation an accounting equation has three parts – assets, shareholder’s equity and liabilities. An accounting equation can be used to analyze the financial position of a business or an individual as through the equation we can determine the claims on the assets of a business or an individual by the debt holders and the equity holders.
Accounting equation can also be expanded to: Assets = Contributed capital+beginning retained earnings+revenue-expenses-dividends+liabilities
Both the above equations helps to show the relationship between a company’s assets, liabilities and equity and hence can be used to determine the financial position of a company.
Information from accounting records is important for making business decisions. What are some examples of business...
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