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Origins and Ethics

Origins and Ethics

Author: Evan McLaughlin

Identify ethical principles related to accounting.

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[MUSIC PLAYING] Hey, everyone. Welcome to today's video, Origins and Ethics. What are we going to talk about today? We're going to look at some reasons for accounting, roles and uses of accounting. We're also going to talk about ethics. We'll look at a couple fraud examples in the field of accounting.

But the first thing we're going to talk about is accounting history. So how accounting started, how it evolved to where we are today. So let's go there.

History of accounting. Believe it or not, accounting does date back more than 7,000 years, to the Mesopotamian and Babylonian empires. But it really started to take shape around the 15th century, in Italy, where Italian monk, Luca Pacioli, documented the double entry accounting system, debits and credits, which we still use today.

Luca Pacioli created the first how-to book on bookkeeping. You can think of it as the Renaissance version of Bookkeeping for Dummies. Now what you see on your screen there is an abacus. So this is a tool that would have been used by Italian merchants to track the money coming in, and money coming out during this 15th century.

Modern accounting-- where are we now? Where have we come? Now accounting is done primarily through the use of software, through computers. There's any number of different software packages out there. And it's really less of a manual process than it was back in the 15th century. So we've really come a long way in accounting.

So accounting-- what is modern accounting? What's the definition of accounting? Let's look at it. Accounting is an academic discipline, involving the reporting, interpretation, and organization of a financial structure for business. This is a very important definition.

So reasons for accounting-- why do we really need accounting? Well, accounting is the language of business. It tells the story about a business' current and future performance. And it also documents a business' resources.

How does it do that? Two ways-- one, it measures the available resources. So it tells us how much cash we have, how much money we owe to creditors. It can help a business analyze their performance results.

The second piece is control. So it allows us to control those resources that the business has available to it. So we can track the flow of money into and out of the business. Accounting is an important tool for owners and management. And they really need accounting in order to operate their business effectively.

So roles and uses of accounting-- how is accounting used? There's two main environments. The first one, internal. So we have internal uses, internal users. They really use accounting to track and control resources, like we just talked about, cash, equipment. But they also use accounting to make projections, and for long-range planning, strategically, and for decision-making.

So there's another environment. There's folks external to an organization. And they use accounting, because they need to know how a business is performing in order to make investing decisions. There's that keyword again, decisions.

So we have internal and external users that both use accounting in order to make the appropriate decisions. Let's continue with this roles and uses of accounting. Accounting is everywhere. We have to use in our day to day lives. We all have to balance our checkbooks. We also have to pay taxes, that's very important. So there are regulatory requirements.

Publicly traded companies must report in certain ways, and at periodic intervals. And all corporations, as well as individuals, must file taxes. And without accounting, these requirements cannot be met.

Last bullet point-- math, marketing, and accounting. How are these related? Well, accounting, as we've talked about, is an integral part of every business. And it relies heavily on math for calculations. So when we're going through, and doing our day to day accounting, we have to perform a lot of mathematical calculations.

Now marketing-- marketing and marketers try to tell the story of a product, so that people will purchase it. Whereas accounting and accountants try to tell the story of a business, so that people will invest in it. So all three of those, very interrelated.

Last topic of the day-- ethical principles. So why are ethics an issue in accounting? Well, accountants control access to important financial information. And they have pressure coming from many places, whether it's performance goals, bonuses. It could just be the instance of greed, as was the case in these frauds that we're going to talk about.

Enron. You may have heard of Enron, you may have not heard of Enron. But what Enron did, is they intentionally reported higher profits, and they created fictitious companies to hide their debt. So they made it look like they were doing much better than they actually were. And when they were found out, they ended up going bankrupt.

Our second example, WorldCom. They also intentionally reported higher profits. And the other thing that WorldCom did, is they recorded items that should have been expensed, and reduced the amount of profit that they were reporting as assets. So they made the company appear to be in a much better financial position than they actually were.

So effective reporting really relies on strong ethics. People need to be able to trust the information they're being provided is valid and correct. So what are we doing to protect the profession? What's being done to protect the profession?

Well, one big thing was a law-- Sarbanes-Oxley, or "SOX" for short-- that was enacted in 2002. And what it does, is it requires additional work and investigation surrounding the accuracy of financial reporting. And it also forces management to be individually responsible for the accuracy of their financial information. All the CEOs and CFOs of these publicly traded companies have to sign off that their financial information is complete and correct.

OK, so let's bring it home. In a nutshell, what have we talked about today? Well, accounting is ancient, more than 7,000 years. But it really started to take shape with Luca Pacioli around the 15th century. It's a measurement, control, and communication tool for businesses. And it improves decision-making, both for internal and external users.

We talked about how it's used by both businesses and individuals. And that it's heavily influenced by the ethics of individuals. I hope everybody enjoyed this video, and I hope to see you next time.

Terms to Know

Academic discipline involving the reporting, interpretation, and organization of a financial structure for a business.