Financial Reporting - Intro and Business Types

Fundamentals of Financial Reporting

Introduction to Accounting

The main users of financial information relating to a business

• Owners


• Customers


• Competitors


• Employees (and unions)


• Government


• Community reps


• Investment analysts


• Suppliers


• Lenders (Banks)


• Managers

Relationship between costs and the value of providing additional accounting information

Basically, it costs more to provide more information, so you only provide enough to reach the optimum, which is providing enough information for it to be cheap, yet still getting lots of value from supplying that information. See the image for a better look.

 

Things that influence the usefulness of accounting information

• Materiality


• Comparability


• Cost / Benefit


• Reliability


• Understandability


• Relevance

The accounting information system

(This is a sequence of steps)

1. Information identification


2. Information recording


3. Information analysis


4. Information reporting

Management and financial accounting

There are several major differences between the two, these are:

• Nature of reports made


• Detail level


• Existence of regulations


• Reporting interval (How often reports are made)


• Time orientation


• Range, quality of information

Main Forms of Business in the UK

Types of business ownership

There are three:

• Sole proprietorship (Just you)


• Partnership (You and someone else)


• Limited company (You and loads of others)

Sole Proprietorship (aka Sole Trader)

• Easy to set up
  
  
  
  • You have to inform HMRC (Customs) but that’s it
  
  
  
  


• Flexible
  
  
  
  • You can usually start trading right away
  
  
  • Easy to end things
  
  
  
  


• Business = Owner
  
  
  
  • There’s no legal separation between you and the business.
  
  
  • But this also means that if the business owes someone money, YOU are liable for that money
  
  
  
  


• Minimum accounting info required
  
  
  
  • Need to supply accounting info for tax purposes but that’s it
  
  
  • Unless your lenders want some info too
  
  
  
  


• Unlimited liability
  
  
  
  • Owner is liable for all business debts - see ‘Business = Owner’
  
  
  
  

Partnership

• When at least 2 people make a business together, with the aim of making a profit


• Similar to sole trader in lots of ways:
  
  
  
  • Flexibility
  
  
  • Taxation of profits
  
  
  • Financial reporting requirements
  
  
  
  


• Partnerships are defined by law, so technically a person could be in one without actually making a formal agreement
  
  
  
  • For this reason it’s normally a good idea to have a ‘Deed of Partnership’ which agrees the terms of the partnership
  
  
  
  


• Just like with a sole trader, there is no legal separation of business and owners


• And there is unlimited liability, so both partners are jointly liable for business debts
  
  
  
  • So if a partner gets the business into debt, ‘they’ could come after you for it
  
  
  • But ‘they’ normally go after the richest partner regardless of who incurred the debt
  
  
  
  

Limited liability partnership

• New type of partnership


• Was introduced in 2000 by the LLP Act


• Designed for professional firms
  
  
  
  • Firms can become large
  
  
  • And the partners might not even know each other
  
  
  
  


• So the LLP is a separate legal entity


• Each member benefits from limited liability
  
  
  
  • Creditors will go after the LLP rather than individual members
  
  
  • So the liability is joint but not severable
  
  
  
  

Limited Company

• A company is known as an incorporated association (inc) which is formed to do business or other things in the name of the association


• Has it’s own distinct legal personality


• The owner’s liability is limited to their investment amount


• As the company grows, there is usually a separation between ownership and control


• Companies are more regulated in several ways:
  
  
  
  • Incorporation requirements
  
  
  • Companies must have an AGM
  
  
  • Annual financial reports must be made available to owners
  
  
  • Financial statements of all but the smallest companies have to be audited
  
  
  
  


• These regulations protect the investors and therefore encourage more investment

Private Limited Company vs Public Limited Company

• Main legal difference is that private LCs can’t offer shares for sale the general public


• Public LCs can sell shares to the public


• Many of them choose to be listed on a stock exchange to do this


• PLCs tend to be larger than Limited (Ltd) companies


• And PLCs are normally run by a board of directors who have been elected, rather than the owners

Choosing a company type

Owners need to think about:

• Cost of set up


• Flexibility
  
  
  
  • To conduct business
  
  
  • To ‘wind up’
  
  
  
  


• Protection of personal assets


• Tax consequences


• Future plans


• Burden of regulations

Support materials for this lecture

• Reading: A&M chapters 1, 4, 5


• Review questions 1.2, 1.3

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