Different Components Of Accounting For Small Business Accounting Essay

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Most modern accounting systems have made major differences in modern organizations because it is the best way to use numbers to your advantage. Everything is a numbers game, whether you are a small business or a large corporation, but the numbers are what make or break you. Numbers are what the IRS uses to place your tax bracket and figure out how many taxes you will pay, numbers are what give you the 'value' that the IRS can use to tax you as an organization.

For instance, there are two important accounting methods that many small businesses and other organizations use. There is cash accounting and accrual accounting. In cash accounting, you record income only when you receive cash from your customers. You record an expense only when you write the check to the vendor. Most individuals use the cash method for their personal finances because it's simpler and less time-consuming.

With a very small business this could be an effective tool, because you can maintain it easier because you don't record income until you receive the cash, and you don't record an expense until the cash is paid out. With the cash method, the only transaction that is recorded is when the customer pays the bill. If you are using computer software to do your accounting, this is probably not a big concern, since the computer program automates much of the extra effort required by the accrual method.

The downside to cash accounting is that when it comes to the IRS you cannot use this method to report your earnings and financial statement for tax purposes. The reason being is because this method can distort your income and expenses, especially if you extend credit to your customers, if you buy on credit from your suppliers, or you keep an inventory of the products you sell. None of those financials would be accurate on the cash method of accounting, because it wouldn't account for everything that you 'own' and are 'owed' based on credit.

With accrual accounting you record income when the sale occurs, like a delivery of a product or the rendering of a service on your part, no matter when you get paid for the service or good. You record an expense when you receive goods or services, even though you may not pay for them until later. The accrual method gives you a more accurate picture of your financial situation than the cash method. This is because you record income on the books when it is truly earned, and you record expenses when they are incurred. Income earned in one period is accurately matched against the expenses that correspond to that period, so you get a better picture of your net profits for each period. (Anonymous, 2000)

There is a minor downside to the accrual method is that you must have a way to collect from bad debt and people who won't pay their credit. This can also affect your end of the year accounting and your overall value. However, if as a business you have a way of collecting debt effectively, the overall financial picture that accrual accounting gives you is much more accurate.

The most important reasons for having accurate financial statement preparation is because that creates confidence, credibility, and reliability by the part of the owner and senior management in the eyes of bankers and other financial institutions and investors who provide cash and working capital to the business. Bankers and other financial institutions are more likely to provide loans and working capital when they have confidence the owners and senior management know what's happening in the business.

The greater the level of confidence bankers and other financial institutions have in timely and accurate financial statements preparation, the easier and faster it is to obtain the necessary cash and working capital and the easier it is to increase cash and working capital as the business grows. This is important in today's economy, no matter the size of your business. (B2B CFO, 2011)

Depreciation also plays an important role in the numbers that a company reports not just to the IRS, but to the stockholders as well. Obviously, depending upon which method is used by management, the bottom-line reported profits of a company can vary greatly from year to year. The level of attention an investor must give depreciation depends upon the asset intensity of the business he or she is studying. The more assets that a particular enterprise has, the more attention depreciation should be given.

Finally, stocks are important method for calculating the worth of a business as well. Most investors, however, are more interested in value and value and price is not the same thing. A company's value for many investors is its ability to generate a satisfactory return over a long holding period. A number of things including financial strength, market dominance, growth potential, and so on, determines that value. So even if the market is showing that there is a drop or fluctuation in the stock value, it takes significant differences for investors to doubt the financial stability of a particular company.

While not every business is going to be the same, the various methods and tricks that any good accountant can use will always be beneficial to the owner and investor because it will save the money in the long run, it will keep accurate financial statements, and will create better bottom lines and profit margins. The financial matters you will confront in your own business are little different than those of large corporations.

Financial tools, coupled with an understanding of how to use them, will assist you in the proper management of your business. Without this understanding and without a dedicated commitment to using financial tools, you reduce your chances of success, and spending a little money on an accountant is well worth the results.