Accounting, though necessary, isn’t the most exciting thing for everyone, and that’s okay. Unexciting as it may be, it’s a vital part of how businesses keep track of their transactions; it is a way to keep a record of what is and isn’t spent, track financial data for businesses to use in the future, and provide information to both investors and company managers on the state of a company’s health. All of this leads to a key result, one that’s useful even outside the accounting field: decision making.
In order to make the best, most well-informed decisions, you need to have all the information in front of you. For accounting, this can be determined thanks to a series of principles that companies must follow—the most publicly traded companies in the United States follow the generally accepted accounting principles (GAAP). The GAAP is a set of standards and best practices that accountants must follow when crunching numbers and filling out financial statements.
Outside of the United States, the standards that accountants follow vary country by country. No matter what set of standards accountants adhere to, three areas in particular lead to better decision making:
- Investors get a baseline analysis of a company’s financial health compared to others.
- Creditors can assess solvency, liquidity, and creditworthiness pertaining to a business.
- Accountants (both financial and managerial) can help businesses make decisions in regards to allocating resources.
Using the financial statements submitted to the Securities and Exchange Commission (SEC), investors and analysts can determine a company’s valuation, creditworthiness, and whether or not stocks for the company are priced fairly. Without these statements, investors wouldn’t have the information (past, present, ad prospective) needed to understand a business’ financial health of stock and bond issuers.
Requirements set by the Financial Accounting Standard Board (FASB) create standards for the timing and style of financial accounts, which means information that investors and analysts see are less likely to be filtered.
Creditors also benefit from financial accounting, as statements about the company outline its assets and debts. This all gives creditors a better sense of the company’s creditworthiness. They typically look at certain ratios, such as the debt-to-equity (D/E) ratio and the times interest ratio, to determine whether they should give someone a large business loan. Ultimately, lenders want to assess the risk that will come with providing companies a loan, and financial accounting lets them do just that.