F3: Financial Accounting - Chapter 1 Notes

Overview

• F3 covers Financial Accounting.
• Videos for F2 (Management Accounting) and F3 will be created simultaneously.
• Separate playlists will be provided for F2 and F3.
• We'll follow the same approach as in F1: chapter explanations first, followed by solving the Kaplan exam kit.

Introduction to Financial Reporting

• Practical chapter with many sums to solve.
• Initial chapters are theoretical.
• Covers concepts partially introduced in F1.

What is Accounting?

• Definition: Recording and summarizing financial performance and position over time.
• Types: Management Accounts and Financial Statements.
  • Statements include: Cash Flows, Changes in Equity, Profit and Loss (P&L), Financial Position (Balance Sheet), and Notes.

Importance of Accounting Information

• Crucial for stakeholders to make significant economic decisions.
• High-quality information is necessary for good decision-making.
• Stakeholders: customers, employees, shareholders, etc.

Financial vs Management Accounting

Financial Accounting

• External Use: Production of financial statements for external users.
• Purpose: To report on the stewardship of funds entrusted by shareholders.
• Standards: International Accounting Standards and International Financial Reporting Standards.
• Characteristics: Public documents, no details on individual product profitability.

Management Accounting

• Internal Use: Provides detailed and up-to-date information for internal management.
• Purpose: Planning, control, and decision-making.
• Characteristics: No specific format, detailed, and focused on future planning.

Uses of Financial Statements

• Investors: Assess potential profits, security of investment, and past performance.
• Employees: Check for secure employment and pay raises.
• Lenders: Assess creditworthiness and solvency for repayment ability.
• Government: Economic performance, tax assessment.
• Suppliers: Assurance for payments on credit sales.
• Customers: Continuity of supply, especially for specialized products.
• Public: Assess effects on economy, environment, and community.
• Competitors & Management: Planning and economic decision-making.
• Overall Need: Relevant and reliable information for assessing management and decision-making.

Types of Business Entities

Sole Trader

• Owned and operated by one individual.
• Characteristic: No legal distinction between owner and business, unlimited liability for debts.
• Capital: Simple structure, represented by a capital account.

Partnership

• Similar to sole trader but with two or more owners.
• Liability: Jointly and severally liable for business debts.
• Capital: Divided between capital and current accounts.

Limited Liability Companies

• Separate legal entities from their owners.
• Liability: Shareholders not personally liable beyond their investment.
• Management: Managed by a board of directors elected by shareholders.
• Dividends: Paid from accumulated profits.

Comparison: Companies vs Sole Traders and Partnerships

• Property Holding: Sole traders and partnerships own the property directly; companies do not.
• Transferable Shares: Easier in companies, requires consent in partnerships.
• Legal Actions: Companies can sue and be sued independently; shareholders are protected.
• Security for Loans: Companies can secure loans with floating charges; not permitted for partnerships and sole traders.
• Taxation: Separate for companies, personal for sole traders and partnerships.

Disadvantages of Incorporation

• Formal Requirements: Registration, submission of annual financial statements, potential audits.
• Public Inspection: Required for registered companies' accounts.
• Capital Management: Strict rules, requires adherence to legal standards.
• Management Participation: Restricted unless also a director; partnerships have broader participation rights.
• Costs: Higher due to legal and administrative requirements.

Conclusion

• This chapter provides an overview of financial accounting and related topics.
• Future chapters will delve deeper into practical aspects.
• Theoretical base set for understanding financial reporting and accounting systems.