Basic Conventions of Financial Accounting

Abstract

The section which follows is designed to help develop a general understanding of the main accounting conventions used in assessing the financial profitability of a firm. These constitute, so to speak, the main building blocks of private profitability accounting. The hypothetical examples used are necessarily simplified; in reality, company accounts are very much more complex. Moreover, from the point of view of the economist (as opposed to that of the accountant) it will be necessary to bear in mind that ‘private’ and ‘national’ financial profitability are distinct concepts. It is important to understand at the outset how firms (private or public) typically organise their accounts for two main reasons. First, a project analyst will need to use private (or public) financial records to extract the required data for economic and social accounting. Secondly, it will often be important to assess financial profitability of a project from several viewpoints before assessing its economic or social profitability. In the case of most projects, the economist will need to carry out separate analyses from the point of view of the firm, the government executing agency (if there is one) and perhaps too look at the project’s overall implications for Government finance (including loan repayments, direct and indirect subsidies and tax payments, etc).