How accounting supports the concept of accountability
Accounting is the process by which a business (or organisation) records its inflows and outflows of resources. Accounting information is used to create financial statements – documents containing text and numerical information that describe the financial performance of a business (or other organisation) over time (such as how much money has been earned from sales over a year), or at a specific point in time (such as how much cash a business has in the bank).
We will dig into the composition of financial statements in more detail in later chapters – but it is sufficient to know for now, that the financial statements help stakeholders of a business to assess whether that business has met their expectations.
Who are stakeholders? Stakeholders are those affected by the operation of a business, organisation or entity. The stakeholder that most frequently comes to mind when starting to learn about accounting are shareholders – owners of the business. However stakeholders can also be employees (including management), suppliers, customers, government regulators, people who live in a place or environment affected by that business.
Stakeholders will use accounting information in the financial statements, along with other non-financial information (of varying sorts) to help them make assessments and decisions about the business and their interaction with it.
Residents of a town close to a mining operation are considered stakeholders. They have noticed an increase in medical conditions associated with mining pollutants. A few residents who understand accounting could analyse the financial statements to understand how much the mining company is spending on environmental protection for the area surrounding the town.
Often many small business owners do not have a strong understanding of accounting and therefore may be unable to analyse the performance of their business adequately – instead going by “gut feel”. An understanding of accounting could help owners identify problems before they become insurmountable.
The complete set of financial statements acts as an X-ray of a business’s financial health. By evaluating all of the financial statements together, someone with financial knowledge can determine the overall health of a business. The accountant can use this information to advise outside (and inside) stakeholders, and management can use this information as one tool to make strategic short- and long-term decisions.
Utilitarian View of Accounting Decisions and Stakeholder Well-Being
Utilitarianism is a well-known and influential moral theory commonly used as a framework to evaluate business decisions. Utilitarianism suggests that an ethical action is one whose consequence achieves the greatest good for the greatest number of people. So, if we want to make an ethical decision, we should ask ourselves who is helped and who is harmed by it. Focusing on consequences in this way generally does not require us to take into account the means of achieving that particular end, however. Put simply, the utilitarian view is an ethical theory that the best action of a business is the one that maximises utility of all stakeholders to the decision. This view assumes that all individuals with an interest in the business are considered within the decision.
Financial statements are used to understand the financial performance of companies and to make long- and short-term decisions. A utilitarian approach considers all stakeholders, and both the long- and short-term effects of a business decision. This allows business decision makers to choose business actions with the potential to produce the best outcomes for the majority of all stakeholders, not just shareholders, and therefore maximise stakeholder happiness.
Accounting decisions can change the approach a stakeholder has in relation to a business. If a business focuses on modifying operations and financial reporting to maximise short-term shareholder value, this could indicate the prioritisation of certain stakeholder interests above others. When a business pursues only short-term profit for shareholders, it neglects the well-being of other stakeholders. Accountants and those involved in business should be aware of the interdependent relationship between all stakeholders and consider whether the results of their decisions are good for the majority of stakeholder interests.