General Accepted Accounting Principles


The differences of financial accounting and managerial accounting are very prevalent. Some of these differences include precision, mandatory external reports and emphasizing financial consequences of past activities. These characteristics are describing financial accounting. Financial accounting is a way of measuring economic performance. This type of accounting summarizes data to prepare balance sheets and income statements for the firm. The specific difference discussed in this piece will be the difference of the Generally Accepted Accounting Principles (GAAP). Financial accounting must follow GAAP, while managerial accounting does not need to follow GAAP.

The Generally Accepted Accounting Principles help steer firms in recording business transactions. The GAAP are not rules, but guidelines for a firm to follow for recording. The principles set a minimum level of regularity in statements. There are many positives in compliance with the GAAP. The principles maintain creditability because it informs outside companies that this company using the GAAP is being portrayed precisely. Stockholders and analysts can read a report knowing that it abides with the accounting principles.

There are many principles to be discussed for the GAAP. The six principles to be discussed during this article are economic entity assumption, accrual basis accounting, revenue recognition principle, relevance, reliability and consistency principle, materiality principle, and cost principle. Economic entity includes any organization in the economy. Examples can include schools, hospitals, governments and churches. Every event must be recorded by a specific entity. Another part to this principle is that records can not include any personal assets or liabilities relating to the owners. The second principle is the accrual basis accounting principle. Accrual basis accounting captures financial aspect in each event in the period of occurrence. Revenues are recognized when the business receives the cash. Expenses are recognized when the business pays with cash. Furthermore, the revenue recognition principle is when revenues are earned upon the finishing of a product or service, but without view to the timing of cash flow. The last principle in the GAAP discussion is relevance, reliability, and consistency. Information must be useful. To be useful, this information in accounting must be relevant, reliable and in a consistent method.

Relevant information will help a decision choice understood properly by examining the businesses past performance, and the future position. Detailed information is needed for internal users to estimate the company’s value. Reliable information must be confirmable. Otherwise, this information cannot be used or trusted in preparation of financial statements. Lastly, the information must be consistent. This means that the methods must be the same for each accounting period. Comparisons can be made between accounting periods if consistent. Consistency will help a company evaluate the methods of the accounting periods. The materiality principle states the requirements of any principle may be ignore, if and only if, there is no consequence on the users of the financial information. An example of this principle would be tracking individual staples used in a department of an office. There is no definitive gauge to calculate the staples used. This judgment of dollars is not a significant entity to a large corporation, but it may to a small, privately owned business. It will depend of the size of the company. The cost principle is dealing with the recording of the company’s assets. The assets equal the value exchanged at the time of their attainment. Assets consisting of land or buildings value with time. Land and buildings do not need to be appraised for reporting.

So what is the difference of why managerial accounting does not need to follow GAAP but financial accounting need to follow the principles? Managerial and financial accounting is two separate types of accounting, so each one needs a specific method for financial reports to help that type of company. Managerial accounting is not bound by the General Accepted Accounting Principles. In managerial accounting, managers set their own rules for financial report methods. Using the General Accepted Accounting Principles set a common ground for external users to rely on when evaluating a company. The GAAP help reduce fraud and catch misrepresentations on financial reports. Managerial accounting prepares reports only for internal use of the manager. This information helps to make decisions on the company’s future. There are no specific required reports, only the reports what the manager sees fit to help make decisions. The reports are normally focused on departments of the organization, not as a whole. Financial accounting relies on reports for perspective of the organization. It focuses on specific information because it is used outside the company. This is why financial accounting must follow GAAP for external reports.

Source by Alison Wondoloski

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