The financial accounting department focuses on collecting and analyzing financial information. In the end, this department disseminates all of its collected data to the individuals that need it the most.
There are plenty of ways how accounting helps in decision-making, and every single one plays an important role in the overall picture. So let’s explore exactly who needs this information and for what reason.
1. Best practices
Accounting principles govern companies’ gathering, analyzing, and disseminating financial data. GAAP, generally accepted accounting principles, dictate how most publicly traded companies complete their financial statements. Outside of the United States, companies adhere to international standards, which could vary based on their country of origin. Knowing companies abide by certain standards helps with further decision-making.
2. Statistical knowledge
The financial information generated by the company and compiled by the accounting department can help provide further knowledge of movement over time. In addition, year-over-year comparisons provide a more in-depth understanding of how the company is doing in the market.
3. Resource utilization
Well-kept financial records help companies determine where resources are getting used. Misuse will come to light during these types of reviews, assisting companies in staying on the right track.
4. Lending decisions
Debtors find financial information put together by companies as one of the most important pieces of their decision-making process. Whether the debtor is a bank or bondholder, they use the financial statements to decide if the company is creditworthy.
Lenders use various accounting ratios to make decisions, such as debt-to-equity and time-interest earned ratios. Even privately held companies are asked to provide documentation of their current creditworthiness by producing financial statements for the debtor to review.
5. Capital investing decisions
The balance sheet, income statement, and cash flow statement are all extremely important supporting documents for any investment decision. Aside from debtors using the information to determine a company’s creditworthiness, individuals within the company use them in much the same way.
Managers and higher-ups review those documents routinely. They can decide the best time to grow and invest in the business from their review, for example, by expanding or investing in new machinery.
Like debtors, shareholders use financial statements to determine whether they should supply a company with more equity. By their nature, shareholders have a stake in the future of the company in which they invest. Financial statements become the basis for decision making before a shareholder commits.
An important process for any company is internal and external auditing. Companies are promptly subjected to such a review to ensure they comply with all regulations. Auditing also helps decision-making since it ultimately helps determine if all financial rules were followed and if generated statements can be trusted.
Company management is always presented with budgeting decisions to preserve the future of the business and help it thrive. Financial statements are the key to making good decisions and providing the right individuals with a company snapshot.
Financial statements provide company management with a current view of the company’s well-being. Based on this information, business management can make decisions surrounding timeframes regarding implementing new processes.
10. Management efficiency
Cumulatively speaking, well-formed and presented financial statements allow business owners and managers to become more efficient at their roles. In addition, rather than making arbitrary decisions concerning the business and its employees, there is a certain level of stability when using financial statements to inform business decisions.
11. Incremental decision-making
Also known as Marginal Analysis, incremental decision-making has business owners focusing on financial information from different perspectives. The current financial statements are reviewed under the guise of different decisions to determine the best route for the company’s future.
12. Costs and behavior
A review of financial information allows companies to understand costs incurred and how they change over time. This market trend will help companies prepare for the future, making better predictions about future cash flow.
13. Fairness and transparency
Using financial information as the basis for all decisions involving the company is one way to ensure fairness and transparency. Companies prove that nothing remains hidden regarding their current and future situations.
14. Marketing decisions
Marketing and advertising help grow the business by attracting new customers. Financial statements advise business owners, management, and marketing teams on the available funds for this endeavor.
15. Constraint analysis
Even companies have their limits. Financial information allows management to view company limits, such as in the sales process or production line. Knowing these constraints will help calculate the impact on financial statements and the well-being of the business.
16. Trend analysis
Knowing the trend of costs and prices is an important part of maintaining and growing a business. In addition, decisions surrounding the future are made with information gleaned from the past, such as historical pricing, location, and customer trends.
The valuation of a company is a huge deal, especially for companies that want to attract the right investor and expand. Financial statements drive this information, allowing business owners and managers to make the right decisions when asking for investors.
As listed above, there are many reasons behind how accounting helps in decision-making. Business owners and managers use a variety of financial statements to make the best decisions surrounding the current and future state of the company. Some of the financial statements include:
- Balance sheet
- Income statement
- Cash flow statement
Together, these documents disclose the current state of financial affairs and well-being within a company, helping determine if they are worthy of investment.
From valuation to investing, to marketing, and everything in between, the accounting department and the financial information they put together are indispensable to a well-running company. Aside from the individuals in the business, external parties such as governments, auditors, investors, and shareholders also want to know this information. Therefore, this information is key for a company to thrive and continue its presence in the market.
To further hone your understanding of accounting topics, check out our mammoth list of accounting and bookkeeping resources!
Agata Kaczmarek has held a passion for writing since early childhood. A professional writer for many years, Agata specializes in writing articles and blogs focused on finance as someone who holds a Masters Degree in Accounting and Finance.
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