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What is 'Financial Accounting'

Financial accounting is the process of recording, summarizing and reporting the myriad of transactions resulting from business operations over a period of time. These transactions are summarized in the preparation of financial statements, including the balance sheet, income statement and cash flow statement, that encapsulate the company's operating performance over a specified period.

BREAKING DOWN 'Financial Accounting'

Financial accounting utilizes a series of established accounting principles. The selection of accounting principles to use during the course of financial accounting depends on the regulatory and reporting requirements the business faces. For public companies in the United States, businesses are required to perform financial accounting in accordance with Generally Accepted Accounting Principles (GAAP). International public companies also frequently report financial statements in accordance to International Financial Reporting Standards. The establishment of these accounting principles is to provide consistent information to investors, creditors, regulators and tax authorities.

Accrual Method Vs. Cash Method

Financial accounting may be performed using either the accrual method, cash method or a combination of the two. Accrual accounting entails recording transactions when the transactions have occurred and the revenue is recognizable. Cash accounting entails recording transactions only upon the exchange of cash. Revenue is only recorded upon the receipt of payment, and expenses are only recorded upon the payment of the obligation.

Financial Accounting Reporting

Financial reporting occurs through the use of financial statements. The financial statements present the five main classifications of financial data: revenues, expenses, assets, liabilities and equity. Revenues and expenses are accounted for and reported on the income statement. Financial accounting results in the determination of net income at the bottom of the income statement. Assets, liabilities and equity accounts are reported on the balance sheet. The balance sheet utilizes financial accounting to report ownership of the future economic benefits of the company.

Financial Accounting Vs. Managerial Accounting

The key difference between financial and managerial accounting is that financial accounting aims at providing information to parties outside the organization, whereas managerial accounting information is aimed at helping managers within the organization make decisions. Financial statement preparation using accounting principles is most relevant to regulatory organizations and financial institutions. Because there are numerous accounting rules that do not translate well into business operation management, different accounting rules and procedures are utilized by internal management for internal business analysis.

Accounting Certifications

The most common accounting designation demonstrating an ability to perform financial accounting within the United States is the Certified Public Accountant (CPA) license. Outside of the United States, holders of the Chartered Accountant (CA) license demonstrate the ability as well. The Certified Management Accountant (CMA) designation demonstrates more an ability to perform internal management functions than financial accounting.

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RELATED FAQS
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  3. What does financial accounting focus on?

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  4. How do investors and lenders benefit from financial accounting?

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