THE LONDON SCHOOL OF ECONOMICS AND POLITICAL SCIENCE

Department of Accounting

Class 1: Introductory discussion questions Solution notes
MT(2)

As has been stressed already, there are no right answers to most of these questions. The following are
notes on the sort of ideas that the class discussion should bring out and are not intended to cover every
possible point.

1. Users of financial accounts (and the purposes for which they use accounts) include:

a) Shareholders - present and future (i.e. potential investors)
- use accounts to make investment decisions, voting decisions and to see how their
money has been used.

b) Creditors - present and future
- use accounts to decide whether to lend money and when to require repayment of their
loan, how much to lend and on what terms. They need the accounts to help monitor
the loan once made.

c) Analysts and advisers have similar purposes to shareholders and creditors.

d) Management uses accounts to plan future investment, to monitor and to control current
investment (however many organisations will use internal management accounts,
rather than published financial accounts).

e) Customers use the accounts to assess the ability of the entity to survive in the long-run
and to decide whether to continue business with the entity.

f) Employees use accounts to assess the organisations prospects and to see if wage
increases can be paid.

g) Competitors use accounts to compare their relative position and performance. They
may also use the accounts to assess the companys competitive strength and its future
plans.

h) Government uses aggregated information from accounts to assist in taking economic
policy decisions. The tax authorities (Inland Revenue) use accounts to calculate
taxation charges (see Lecture 17).

i) Society has innumerable uses for accounts, the main purpose being to get information
about the organisation concerned.

In brief, the type of information sought by the above groups includes:

a) Shareholders seek details of past results especially profits available for distribution,
dividends, and performance ratios to enable comparisons with other investments to be
made. Future plans and budgets are of interest. Non-financial information is useful,
e.g. new areas of investment, other information that can help in assessing the future
prospects of the company and the risk of their investment.

b) Creditors will require details of cash available (liquidity) and other loans outstanding.
Future plans (e.g. projected future cash flows) are also of interest.

c) Analysts etc. again have similar needs to shareholders and creditors, although their
expertise tends to make them desire more detailed information, e.g. split by
geographical area or by product.

d) Management needs comparisons of actual results with forecasts and budgets to enable
monitoring to be carried out. To make decisions they need a wide range of detailed
information, much of which will be non-financial, e.g. manpower available, plant and
machinery available.

e) Customers need information about the entitys profitability, its future plans for
expansion and other information about its ability to survive in the future.

f) Employees want details of current and anticipated profitability among other items.
They are also interested in non-financial data on future plans such as employment
policy, factory closures, etc.

g) Competitors need information about the entitys position, performance and future
investment plans to assess the threat to sales and profits posed by the entity and to
provide a benchmark against which to measure their own performance.

g) Government requires many items of information for policy-making, e.g. exports,
capital expenditure. The Inland Revenue needs details of profits and expenses to arrive
at a tax charge.

h) Society as a whole has a wide range of requirements. Many will be non-financial, e.g.
employment policies, product quality, environmental policies, ethics etc.

(NB Published accounts are not legally required to give much of this information. Larger and
more publicly visible firms may disclose additional information voluntarily, but for a
substantial proportion of smaller firms much information remains unravelled)

2. This is a question for class discussion. Differences in the rankings of user groups are due to
differences in the political, economic, legal and institutional environment, the culture and the
dominant business structure in each country.

3. A list of the functions of accounting could include:

a) Recording function - accounting systems supply a means of recording and classifying
data so as to enable the production of summarised financial statements relating to the
entity's results and current state of affairs.

b) Measuring - accounting tries to assist in the measurement of the economic results of
the entity's activities, usually with a view to sharing out the results over the various
interested parties, e.g. government (taxes), employees (wages), shareholders, etc.

c) Stewardship function - accounting provides a record of how the funds entrusted to
managers have been used by them, and to what ends.

d) Monitoring, planning and control - accounting provides information on the results of
past activities to enable management to monitor the results and take action if necessary,
and to formulate future plans.

e) Information for decisions - accounting is concerned with the production of information
to enable decisions to be taken; by management, shareholders/owners, and by other
users.

f) Communication - accounting is also about the communication of this information to
users.

All these functions are interlinked to some extent. Their relative importance is a matter of
opinion and point of view. The recording function is perhaps the earliest, and without it none
of the others would be possible. The stewardship and measurement functions developed when
the rise of the joint stock companies increased the split between ownership and control of
resources. These functions have been displaced in importance by the last three functions listed
which have increased in prominence as accounting has been recognised as a social science and
a branch of applied economics.
[Note: The recording and measuring function were not explicitly addressed in the lecture so
you may wish to elaborate a bit more on these two functions outlining the fact that they have
been displaced in recent years]

4. The search of relevance is hampered by the search for reliability in terms of:
a. the timeliness of accounting information: reliable information is usually outdated, whereas
timely information is usually less reliable.
b. the content of accounting information: the most useful and relevant information for
economic decision making may rely on managerial or market estimates rather than objective
and verifiable information.

5. Answers might include the following concepts: - business entity, money measurement,
going concern, historic cost, realization, accruals, matching, consistency,
prudence/conservatism periodicity. Most of these are discussed at various places in the
Atrill & McLaney textbook (e.g., 48-50, 71, 72, 75) and in the lecture slides.
.