What’s the Difference Between Finance and Accounting
People generally confuse the term finance and accounting and use them interchangeably, when in reality these two terms are very different from each other and have different meanings. You may remember that we covered “finance and economics” in an earlier article and explained just how different the two terms are. In this article too, we shall look at the difference and similarities between the terms finance and accounting.
What is Finance?
You may recall from the earlier article that finance mainly deals with the management of money. The term finance is very broad in its perspective and it includes
- Personal finance
- Corporate finance
- Public finance
Personal finance is all about management of personal financial manners. Every person has a rudimentary sort of awareness about personal finance but learning a bit about personal financial strategies can really help a person control their finances in a better manner. Personal finance covers topics such as budgeting, learning to live within one`s means, cutting the expenditures and creating multiple income streams. If you notice, all of these topics are about managing money, which is basically what the term finance means.
Corporate finance is about managing the monetary matters of corporations. The basics of fiannce are the same whether you look at personal or corporate finance. Corporations also need to have their budget made, their budgets are far more complex than the budget of an individual but still they need to have their budget made otherwise they will not be able to function.
Corporate finance also looks into matters of funding for the businesses. The biggest question that financial managers face is how to fund the business. Should the business be funded through equity or through debt. Qualified financial managers and analysts help businesses come up with strategies and solutions on how to fund the business.
Corporate finance is a very technical area because it also delves into law. A financial analyst must be aware of the local applicable laws as well as the applicable financial frameworks in order to device the right strategy for the business.
Financial managers not only have to work out how to fund the business but they also have to manage the finances of the business. This means that they also have to devise strategies to cut down expenditures, reduce costs and make sure that the finances of the business are being handled in an efficient and cost effective manner in order to maximize the profits. Thus the role of a financial manager, financial controller or a CFO is a chief role in any organization and this shows the prime importance that finance has.
Public finance simply refers to the management of monetary affairs in the public domain. It is concerned with the issue of raising public finance through tax and other fiscal policy tools such as tariffs, duties and levys. Public finance deals with a how the government manages the finance of the country.
Finance therefore, is linked with managing the monetary affairs. Anything that has to do with managing money can be called finance. The field of finance is a vast field and on the global scale there are regulatory bodies such as ACCA, IFAC, IAASB etc that overlook how the profession develops with the changing world because the finance function is directly linked with global economy.
There are globally recognized financial standards that qualified financial professionals must follow in order to harmonize financial reporting and bring transparency and consistency to financial statements that are produced by corporations.
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What is Accounting?
Accounting refers to the activity of recording accounting data that is generated in the course of doing business activity. Whenever any business or economic activity is done, it results in the generation of accounting data. For example if you purchase a car, this act of purchasing a car will result in a transaction that will reflect your economic activity.
Similarly in the economy millions of transactions generate every day and in order to keep the global financial system running smoothly these transactions need to be recorded. If you look at individuals, then the accounting transactions of individuals are simpler as compared to businesses. Individuals make purchase through their bank or cards and therefore these accounting transactions are recorded in the form of bank statements that are issued to them. You may be thinking about cash purchases then? What if I bought something for $100 through cash, surely I won`t record it right? No individual records their daily cash transactions but the other party to your transactions records it. If I use $100 to buy something from a grocery store then the grocery store will record that transaction and in this manner my economic activity will be recorded.
This is also known as dual incidence, that each accounting transaction has dual effects and even if one party doesn`t record it, the second party surely will.
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The accounting transactions of businesses are far more complex than individuals and for this reason businesses hire qualified professional accountants to manage their books. In the past accountants used to keep heavy books to record various financial transactions but nowadays everything is done through computers. There are automated softwares available in the market that have reduced the work load of accountants.
Accounting therefore refers to the activity of keeping accounting data. But it isn`t simply linked to recording accounting data, no accountants also have to make sense of this data and this means that accountants have to turn this accounting data into meaningful information for managers and the stakeholders. Qualified professional accountants today also perform the advisory role, to advise senior management about the best course of action to take based on the accounting data available.
Accounting and finance should be seen as two consecutive rungs of the same ladder. Finance is dependent upon accounting data and accounting data won`t make any sense unless you look at it from a financial perspective. For instance if a company posts a net profit of $1 billion, what does it mean? The number by itself is meaningless unless you look at it in some context. Whether this profit is made against sales of $100 billion or $10 billion. This puts the accounting data into perspective and this is how financial managers extract meaningful information. Each professional would have completed the relevant courses and qualifications.
You cannot have finance without accounting, it is basic accounting data that creates the need for finance and if we take this one step further then when different individuals and companies come together, they create an economy and therefore we can now say that you cannot have fiancé without accounting and you cannot have economy without finance. Although these three terms are all different from each other but they are also inter linked with each other and it is not possible to understand any single term without a comprehensive understanding of all the three terms.
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