What is accounting and why does it matter?

Accounting is important for small business owners as it helps you and other stakeholders evaluate the company’s financial performance. Therefore, you need a good understanding of what accounting is and how it works.

This guide will answer the following questions:

• What is accounting?
• What are the different types of accounting?
• Why is accounting important for your business?
• How does it help small business owners?
• How can Countingup help?

The term ‘accounting’ refers to how a business records, organises and analyses its financial data. Think of accounting as a machine that you feed with information about your financial activities. The machine then records, processes and analyses your transactions, taxes, projections, and other data. Once it’s done, the machine delivers you an understandable story about how your business is doing financially.

In other words, accounting tells you how money moves in and out of your business (your cash flow), the value of your assets (valuable items) and liabilities (debts, expenses, etc.). Accounting also helps reveal which parts of your business are making money.

Generally speaking, there are five main types of accounting, as listed below:

Every year, companies generate financial statements that people outside the business, such as investors, lenders, government agencies and auditors, can use to learn more about their financial health.

Financial accounting involves preparing the company’s annual financial statements, including the balance sheet, profit and loss statement and cash flow statement.

Learn more about the types of financial reporting for every small business.

Managerial accounting is similar to financial accounting. However, in this case, you only use the financial statements for internal purposes. 

Financial statements for managerial accounting are also generated more often, either monthly or quarterly. If you ever need to hire a professional accountant, most of their time will be spent on managerial accounting. You’ll essentially pay them to create reports that give you regular updates on the business’ financial health and help you understand these reports. 

Tax accounting is another common type that focuses solely on how to get the most out of your Self Assessment tax return. Tax accountants stay up to date on changes in tax laws that could affect your business and advise you where you can save money on your taxes. 

This includes informing you about what business expenses you can claim back from HMRC and the most tax-efficient way to pay yourself in salary vs dividends. 

Cost accounting involves analysing costs associated with producing a product or service to make better decisions about pricing, spending and inventory. In other words, whenever you try to figure out something like if you should increase your prices, you’re doing cost accounting. 

Feeding into managerial accounting, cost accounting reports are used by managers to make better business decisions. Cost accounting also feeds into financial accounting since you often need the cost data when compiling a balance sheet.

Credit accounting involves analysing all your company’s unpaid bills and liabilities to make sure your cash isn’t constantly tied up in paying for them.

This accounting type can be one of the most difficult to get right since it usually involves being the bearer of bad news. For example, your accountant may need to tell you to reduce your business costs or find another supplier, which you may not want to hear.  

Accounting helps small business owners evaluate the company’s financial performance. It’s crucial because it provides important information about your income, expenses, profit and loss. Accounting also helps you determine if you’re planning and controlling your business processes efficiently. 

Managing your finances can be tricky when running a small business if you’re not familiar with accounting and bookkeeping. To make sure your accounts are done correctly, you may want to hire a professional accountant or bookkeeper to take the task off your hands. 

An accountant will be able to offer you advice on how to manage your finances more effectively to be more successful.

One of the main reasons that small businesses fail is poor financial management, especially in the first year. Small businesses generally have a limited budget and resources, meaning accounting plays a crucial role in maximising these to grow and develop.

Accounting helps small businesses to:

• Keep track of cash flow. 
• Understand the concepts of fixed costs and variable costs, and accurately evaluate the cost of a project.
• Get a better grasp of the wellbeing of the business by learning to read the balance sheet, income statement and cash flow statement.
• Detect and avoid fraud and theft by customers, employees and suppliers.
• Increase the odds of bankers and lenders extending business loans. These institutions are more confident dealing with business owners who can handle their business’ finances and understand financial implications.

Whether you are a sole trader, contractor or the owner of a limited company, the key to growing your business is to review your financial statements regularly.  You’ll want to use your accounting skills (or your accountant’s) to establish a budget that will allow you to deal with any inefficiencies that hold you back.  For example, saving a little on several different expenses can add up to big results in the long run.

When you sign up for a Countingup business current account, you get free built-in accounting software that allows you and your accountant to keep track of your books with ease. 

Countingup automates the time-consuming aspects of bookkeeping and tax planning so you can focus on running your business. You can view real-time profit and loss statements, get cash flow insights, tax estimates, send invoices in instants, and more. 

Find out more here to keep your finances running like clockwork.