There are principles of accounting which when neglected can cost you billions. 10 cents is made up of the same substance as 1 billion dollars. In other words if you can’t account for 10 cents you will lose a billion dollars as it is all money and functions according to the same principle. Lately we have heard of businesses and governments losing significant amounts in the billions, and not understand where the money went. Accounting is not complicated, what is complicated is the involvement of human motives towards that money. Recently the president of Zimbabwe announced how the country has lost 15 billion dollars in the diamond mining sector whilst Nigeria figures fluctuate from 5 billion to as high as 12 billion dollars. We will not dwell on the politics of the matter but will touch on Unlocking success in using sound accounting principles.
1. Matching principle
If you can’t match expenses to the period that they were made how then will one know how much was needed to generate your revenue. Spending money seems like a gift to the undisciplined such that they spend money which cannot be explained by your current activities. If you make 1000 dollars but you are spending 2000 dollars which is not related to the revenue that you are making then there is a problem somewhere. Accounting requires that you match costs to the related revenue to enable the business to see if the business is making a profit and if the business venture is worthwhile.
2. Revenue Recognition
Accounting principle on revenue recognition require us to recognize revenue when the product has been sold or when a service has been performed regardless of when the actual payment or cash is received. If you sell oil today, which is a product then that is revenue that you must recognize. If however you delay in recognizing the revenue and wait for the cash you might never actually account for it and match it to the expenses that you incurred. How then will you know if you are making a profit?
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3. Entity principle
Trouble starts when one begins to view a business as their personal property. They start to confuse personal costs with revenue costs. Now, remember in the matching principle that costs must be matched to their revenue, if however one starts to mix their own costs with revenue costs and expenses, profit becomes difficult to be attributed to the business. It’s easy to lose a billion dollars in this way. This kind of behavior is a cash drawer sickness where one thinks because they see the money it belongs to them. The entity principle is there to ensure that a business is accounted for what it is, a separate entity. If an owner is working in the business then they must be paid a salary that is worth the value of their service in generating revenue. Only after a profit is made can a business owner be paid outside their salary.
4. Reliability Principles
A more than often violated principle is the reliability principle in which a business loses the documents to prove that a transaction actually occurred. In some circumstances the business is involved in transactions which cannot be traced. At the end the business is just operating but no one knows where the money is going. The major challenge then comes when we want to account for our revenue and costs because we no longer have a reliable source of information. Instead what we have is a suspected position and we cannot explain why we never have enough money to pay expenses simply because there are no documents to show where the money is going or coming from.
5. Disclosure principle
Until you can disclose what your business does and the accounting assumptions or Principles in use the business will remain a mystery and attract scandalous activities. When we present the financial statements and neglect to show information that will impact the figures we are violating the principle.
There is obviously more to businesses losing billions however standards are critical in maintaining a business profitability.