Bookkeepers and the Accounting Equation

I watched a presentation by one of our amazing business partners (a taxation accountant) last week, who described the accounting equation and how that applied to business.

To paint a simplified broad brush over the discussion -

As business owners, we begin with equity in a business. We then borrow funds in order to increase our assets, which are used to generate revenue. This revenue, minus the expenses gives us our profit.

equation

With the profit we then have 3 choices - we can reinvest back into the business, reduce our liabilities, or draw the profit out of the business. The role of an accountant in this process is to help provide strategic guidance to achieve the goals of the equity holders.

But what is the role of a bookkeeper?

The role of a bookkeeper in that equation is to ensure that the information presented to a business owner or board is as accurate as possible. For us, it is ensuring that the day to day financial transactions are properly accounted for (pardon the pun) on a timely basis, so that the financial reports reflect the true state of a business.

As the computer science adage goes - Garbage In, Garbage Out. Without this role being carried out effectively, it's impossible to make good business decisions.

It's not just ensuring that everything balances and is accurate - but it's a question of granularity. 

Consider this -

Data is defined as raw, unorganized facts. In a financial system, data is represented by the transactions that take place within the business.

Information is the result of data being processed, organized, structured, or presented in a given context to make it useful. In a financial system, information might be your balance sheet and profit and loss summary.

Granularity is the extent to which a system is broken down into smaller parts. It's the level of detail that you choose to go to.

Having a too high-level view of the financial information might not highlight specific underlying issues (for example if you are a retail company and classify all advertising under a single account code in the chart of accounts). Having too much detail can lead to information overload and paralyse decision making.

The art of bookkeeping is determining the right level of detail required for financial information to be meaningful to business decisions.



Recent thoughts