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What do accountants do? Most people would point to financial statements and say that accountants make these. Others might point to a company’s books and say that they keep track of business information in these.
While these answers are true enough, most accountants would point out that they are in the business of applying accounting standards to make a company’s financial transactions reliable and relevant for the people who have an interest in understanding that company. It is the knowledge and application of those accounting standards that transforms the numbers flowing through financial transactions into valuable information for decision makers both inside and outside of that company.
There are essentially three accounting standards that American accountants need to be familiar with. The first is the IRS-facilitated cash basis accounting standard. This is the simplest standard, and the one most often used by small businesses. Simplicity is its calling card. It is very simple to understand and very easy to apply. A transaction occurs when cash changes hands. This is perfect for a lemonade stand. Its simplicity is also its limitation.
The second standard, US GAAP, is the default standard for accountants in America. GAAP stands for Generally Accepted Accounting Principles. GAAP can be used by any company from a sole proprietor running a lemonade stand by herself to the giant publicly held Fortune 500 conglomerate company General Electric.
The third standard IFRS is used by most other countries, including those in the European Union. Some American companies have recently switched from GAAP to IFRS. While previous generations of American accountants could largely ignore IFRS, IFRS is becoming increasingly important for American accountants to learn.
Accounting principles are the general rules that define how financial information is handled. Accounting standards like GAAP are specific guidelines that flow from these underlying accounting principles.
The Going Concern Principle is the assumption that a company will continue its operations indefinitely, and that its productive assets will not be sold off in the near future. GAAP presumes that the business has the intention and capability to continue its operations into the foreseeable future.
This Going Concern Principle then affects how a company’s assets and liabilities are valued and presented in its financial statements. The Going Concern Principle is also why GAAP practices like the depreciation of assets make sense. If an accountant does not assume that a business is going to exist next year, then it isn’t sensible for that business to depreciate their new delivery truck over the next five years.
If an accountant has a good reason to doubt this Going Concern assumption, such as this business no longer has any market for its services, has lost all of its customers, and has no operating revenue, then the accountant must disclose that at the outset of the company’s financial statements. Otherwise, the users of corporate financial statements should assume that this business is a going concern.
When a customer at my lemonade stand hands me money, and I hand them a cup of lemonade, a financial transaction has occurred. I earn the income from that sale at that moment.
When a customer at my farm purchases in January a hive of bees to be delivered in May, when do I earn income from that sale? I have collected the customer’s money, but I still owe them a hive of bees. Unlike cash basis accounting, accrual accounting recognizes income when that product is provided irrespective of when cash is received. So under the Accrual Principle, I would recognize that income not in January but in May even though I received the money in January.
Under the Accrual Principle, income is recognized as earned once I have delivered the service or product sold. Similarly, expenses are recognized not when cash goes out the door, but when the benefit from that expense is received.
When my bookkeeping company purchases insurance for the year, we pay for the entire year upfront. The cash goes out the door a year before we receive the entire benefit from that insurance expense. Under the Accrual Principle, when we prepare our monthly financial statements in June, we recognize the insurance expense that was used only during June. So by the end of June, we will have used up 6 months or half of our prepaid insurance expense. The remainder of our annual insurance expense that will cover us from July through December is, under the Accrual Principle, not considered an expense. Instead, this prepaid expense is considered an asset.
The Accrual Principle matches the financial statements of a company with its economic activity. This gives a more accurate picture of the company than cash basis accounting provides. The downside is that accrual accounting is more complicated than simply tracking the flow of cash in and out of a business.
The Matching Principle is an extension of the Accrual Principle. The Matching Principle says that revenues should be matched and recognized in the period when the benefits from a financial transaction are provided to a customer, and that expenses should be matched and recognized in the period when the benefits are received from a supplier. Aligning revenues with the expenses that helped to generate them ensures that a period’s financial statements accurately reflect the profitability of a business.
The Periodicity Principle says that a company’s life should be divided into regularly recurring periods like months, quarters and years for financial reporting purposes. Following the Periodicity Principle helps ensure that financial statements are timely enough to be relevant to those who use them to make decisions. Because these periods are consistent, the Periodicity Principle also facilitates the comparability of financial statements between periods.
The Monetary Principle says that only those events that can be measured monetarily should be included within the financial statements. A company’s management can include other factors like brand reputation or its customer size within management’s discussion section, but these non-monetary factors should not be included within the financial statements themselves.
The Consistency Principle says that the application of accounting practices and policies should be consistent across periods. Applying this principle means that once an accounting policy or method has been adopted by a company, it should continue to be used in the future unless there is a valid reason to change it. This principle facilitates the comparability of financial statements between periods.
The Conservatism Principle says that caution should be prioritized in financial statements. For example, a company should report estimated losses before they actually occur while estimated gains should never be recorded before they occur. This principle mitigates against a company’s desire to overstate its profitability.
There are three accounting standards used by companies in the United States. The primary and default standard is GAAP. Lots of small businesses use the cash basis, and some large corporations have adopted IFRS.
Cash basis accounting is simple. Transactions occur at the moment cash changes hands. Cash basis accounting operates a lot like a checking account. An accountant or more likely a bookkeeper can prepare financial statements by examining the flow of cash through the business much the same way a monthly checking account statement does.
Cash basis accounting is appropriate for small privately held businesses without a lot of overhead expenses or fixed assets. Its light touch fits such businesses’ needs much better than the much more involved GAAP or IFRS accounting standards. Often, as a small business grows, it will begin to adopt more and more of the accrual-based standards of GAAP like depreciation.
IFRS stands for International Financial Reporting Standards. IFRS was developed and is governed by the International Accounting Standards Board (IASB). IFRS is an attempt to unify accounting standards across countries so that comparisons can be made between companies operating in different countries.
The biggest conceptual difference between IFRS and US GAAP is that IFRS relies primarily on more abstract principles while US GAAP relies more on specific rules. For example, GAAP says that acquired intangible assets, which are things like goodwill and research and development that one company acquires when it purchases another company, should be recognized at their fair value. IFRS, however, says in IAS 38 that these acquired intangible assets should not be recognized at all unless they will have future economic benefit and if their specific acquisition cost can be reliably measured.
Another example is that a company following IFRS is allowed to write-down its inventory in one period, and then in a subsequent period they can reverse this write-down. Under GAAP, once inventory has been written down, it can never be reversed. This GAAP rule is specific and exists to prevent companies from manipulating their balance sheet by revaluing their inventory.
US Generally Accepted Accounting Principles are a framework of accounting standards and procedures. This is the default accounting standard in America. GAAP is governed by the Financial Accounting Standards Board (FASB).
A company’s financial records or, colloquially, books are records of its financial transactions. These records are essential for keeping accurate financial records, making informed business decisions and complying with governmental regulations.
Journals are the first point of entry and are often referred to as the books of original entry. Journals are where all the financial transactions of a company are recorded in chronological order.
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Cash Flow Statement For Year Ended Dec 31, 2025 Cash Flow From Operations Net earnings $200 Additions to Cash Depreciation $70 Subtractions to Cash Increase in Inventory ($50) Net Cash From Operations $220 Cash Flow From Investing Equipment ($100) Cash Flow From Financing Notes Payable $30 Cash Flow for FY Ended Dec 31, 2025 $150