What is financial administration?
Financial administration is the process by which a company systematically records all its income and expenses. This helps to gain a clear picture of the financial situation and ensures that companies can make informed decisions. Good administration is not only useful but also mandatory. Businesses must keep their finances in order to pay taxes and prevent financial difficulties.
With well-organized administration, a company knows exactly how much money is coming in and going out. This helps in making important decisions, such as purchasing new equipment, hiring additional staff, or cutting costs. Additionally, up-to-date administration is essential for preparing tax returns and obtaining loans or investments. Banks and investors examine financial administration to determine whether a company is financially healthy and whether it is safe to invest in it.
Whereas this used to involve endless paperwork, we now have various systems that assist in recording administration. This also makes it possible to conduct data analyses!
Basic Principles of Bookkeeping
The process of recording all these transactions is called bookkeeping, a term you have probably heard before. It is a crucial part of financial administration because it records all a company's income and expenses, providing a clear overview. Below, we explain some fundamental principles of bookkeeping.
What is bookkeeping?
Bookkeeping involves several steps. First, all income and expenses, such as receipts, invoices, and bank statements, are collected. Then, this data is systematically recorded in an accounting system. While receipts and invoices may arrive in various formats, this process ensures they are stored uniformly.
Next, transactions are categorized, such as revenue from sales or expenses for rent. Based on this data, essential financial reports are created, such as the balance sheet and the profit and loss statement. These reports provide insight into a company's financial health and aid in decision-making.
Double-entry bookkeeping
A key principle in bookkeeping is the double-entry bookkeeping system. This means that every transaction is recorded in two places: once as a debit and once as a credit. This ensures the balance always remains in equilibrium.
- Debit: This means something increases in value, such as money spent on a purchase or investment.
- Credit: This means a liability or income increases, such as a loan or a sale.
Double-entry bookkeeping might seem complex at first, but once you grasp the concept, you'll see how useful it is! This system helps businesses maintain accurate and reliable financial records. Auditors also use this method to verify the accuracy of bookkeeping. Double-entry bookkeeping thus provides an extra layer of control.
Important Accounting Principles
By now, you probably understand that proper bookkeeping is crucial. To assist with this, a set of rules/principles has been established that are used worldwide and are integrated into many accounting systems:
| Principle | Explanation |
|---|---|
| Revenue Recognition Principle | Revenue is only recorded when it is actually earned, not when the money is received. This prevents profits from being recorded too early and provides a realistic financial picture. |
| Matching Principle | Expenses are recorded in the same period as the related revenue. For example, if a company sells products, the production costs must be recorded in the same period. This ensures an accurate financial picture. |
| Prudence Principle | Potential losses are recorded immediately, whereas profits are only recorded when they are certain. This prevents a company from presenting an overly optimistic financial picture and ensures that risks are accounted for. |
| Going Concern Principle | Accounting assumes that the company will continue to operate in the future. This affects how assets and liabilities are valued. If there is uncertainty about the company's future, this must be disclosed in the financial reports. |
| Consistency Principle | Companies should not frequently change their accounting policies so that financial reports remain comparable across different periods. This makes it easier to analyze trends and assess performance. |
| Transparency Principle | All financial information must be clear and accessible to stakeholders so they can make well-informed decisions. |
By following these principles, businesses ensure that their financial administration remains accurate. If things go wrong and the administration is a mess, it can lead to a disclaimer of opinion, as the auditor may not be able to obtain a clear picture of the records and therefore cannot express an opinion on them.
