Accountancy or accounting is the art of communicating financial information about a business entity to users such as shareholders and managers. The communication is generally in the form of financial statements that show in money terms the economic resources under the control of management.

Accounting is thousands of years old. The earliest accounting records were found in the Middle East which date back more than 7,000 years. The people of that time relied on primitive accounting methods to record the growth of crops and herds. Accounting evolved, improving over the years and advancing as business advanced.

Early accounts served mainly to assist the memory of the businessperson and the audience for the account was the proprietor or record keeper alone. Cruder forms of accounting were inadequate for the problems created by a business entity involving multiple investors, so double-entry bookkeeping first emerged in northern Italy in the 14th century, where trading ventures began to require more capital than a single individual was able to invest. The development of joint stock companies created wider audiences for accounts, as investors without firsthand knowledge of their operations relied on accounts to provide the requisite information.

This development resulted in a split of accounting systems for internal (i.e. management accounting) and external (i.e. financial accounting) purposes, and subsequently also in accounting and disclosure regulations and a growing need for independent attestation of external accounts by auditors.

Today, accounting is called "the language of business" because it is the vehicle for reporting financial information about a business entity to many different groups of people. Accounting that concentrates on reporting to people inside the business entity is called management accounting and is used to provide information to employees, managers, owner-managers and auditors. Management accounting is concerned primarily with providing a basis for making management or operating decisions. Accounting that provides information to people outside the business entity is called financial accounting and provides information to present and potential shareholders, creditors such as banks or vendors, financial analysts, economists, and government agencies. Because these users have different needs, the presentation of financial accounts is very structured and subject to many more rules than management accounting. The body of rules that governs financial accounting is called Generally Accepted Accounting Principles, or GAAP.

Accounting has also been defined by the AICPA as "The art of recording, classifying, and summarizing in a significant manner and in terms of money, transactions and events which are, in part at least, of financial character, and interpreting the results thereof."

Etymology

The word "Accountant" is derived from the French word "Compter", which took its origin from the Latin word "Computare". The word was formerly written in English as "Accomptant", but in process of time the word, which was always pronounced by dropping the "p", became gradually changed both in pronunciation and in orthography to its present form."

History

Early history

The earliest accounting records were found amongst the ruins of ancient Babylon, Assyria and Sumeria, which date back more than 7,000 years. The people of that time relied on primitive accounting methods to record the growth of crops and herds. Because there is a natural season to farming and herding, it is easy to count and determine if a surplus had been gained after the crops had been harvested or the young animals weaned.

Map of the Middle East showing the Fertile Cresent circa. 3rd millennium BC.

During the period 8000–3700 BCE, the Fertile Crescent witnessed the spread of small settlements supported by agricultural surplus. Tokens, shaped into simple geometric forms such as cones or spheres, were used for stewardship purposes in relation to identifying and securing this surplus, and are examples of accounts that referred to lists of personal property. Some of them bore markings in the form of incised lines and impressed dots. Neolithic community leaders collected the surplus at regular intervals in the form of a share of the farmers’ flocks and harvests. In turn, the accumulated communal goods were redistributed to those who could not support themselves, but the greatest part was earmarked for the performance of religious rituals and festivals. In 7000 BCE, there were only some 10 token shapes because the system exclusively recorded agricultural goods, each representing one of the farm products levied at the time, such as grain, oil and domesticated animals.The number of token shapes increased to about 350 around 3500 BCE, when urban workshops started contributing to the redistribution economy. Some of the new tokens stood for raw materials such as wool and metal and others for finished products among which textiles, garments, jewelry, bread, beer and honey.

Complex accounting tokens made of clay, from Susa, Uruk period, cira 3500 BCE. Department of Oriental Antiquities, Louvre.

The true cognitive significance of the token system was to foster the manipulation of data. Compared to oral information passed on from one individual to the other, tokens were extra-somatic, that is outside the human mind. As a result, the Neolithic accountants were no longer the passive recipients of someone else’s knowledge, but they took an active part in encoding and decoding data. The token system substituted miniature counters for the real goods, which eliminated their bulk and weight and allowed dealing with them in abstraction by. As a result, heavy baskets of grains and animals difficult to control could be easily counted and recounted. The accountants could add, subtract, multiply and divide by manually moving and removing counters.

Globular token envelope with a cluster of accounting tokens. Clay, Susa, Uruk period (4000 to 3100 BCE). Department of Oriental Antiquities, Louvre.

Economic tablet with numeric signs. Proto-Elamite script in clay, Susa, Uruk period (3200 BC to 2700 BCE). Department of Oriental Antiquities, Louvre.

The Mesopotamian civilization emerged during the period 3700–2900 BCE amid the development of technological innovations such as the plough, sailing boats and copper metal working. Clay tablets with pictographic characters appeared in this period to record commercial transactions performed by the temples. Clay receptacles known as bullae, were used in Elamite city of Susa which contained tokens. These receptacles were spherical in shape and acted as envelopes, on which the seal of the individuals taking part in a transaction were engraved. The symbols of the tokens they contained were represented graphically on their surface, and the recipient of the goods could check whether they matched with the amount and characteristics expressed on the bulla once they had received and inspected them. The fact that the content of bulla was marked on its surface produced a simple way of checking without destroying the receptacle, which constituted in itself an exercise in writing that, despite being born spontaneously as a support for the existing system for controlling merchant goods, ultimately became the definitive practice for non-oral communication. Eventually, bullae were replaced by clay tablets, which used symbols to represent the tokens.

Such records preceded the earliest found examples of cuneiform writing in the form of abstract signs incised in clay tablets, which were written in Sumerian by 2900 BCE in Jemdet Nasr. Therefore “token envelop accounting” not only preceded the written word but constituted the major impetus in the creation of writing and abstract counting.

During the Sumerian period, token envelop accounting was replaced by flat clay tablets impressed by tokens that merely transferred symbols. Such documents were kept by scribes, who were carefully trained to acquire the necessary literary and arithmetic skills and were held responsible for documenting financial transactions.

Simple accounting is mentioned in the Christian Bible (New Testament) in the Book of Matthew, in the Parable of the Talents. The Islamic Qur'an also mentions simple accounting for trade and credit arrangements.

In the twelfth century AD, the Arab writer, Ibn Taymiyyah, mentioned in his book Hisba (literally, "verification" or "calculation") detailed accounting systems used by Muslims as early as in the mid-seventh century AD These accounting practices were influenced by the Roman and the Persian civilizations that Muslims interacted with. The most detailed example Ibn Taymiyyah provides of a complex governmental accounting system is the Divan of Umar, the second Caliph of Islam, in which all revenues and disbursements were recorded. The Divan of Umar has been described in detail by various Islamic historians and was used by Muslim rulers in the Middle East with modifications and enhancements until the fall of the Ottoman Empire.

The development of mathematics and accounting were intertwined during the Renaissance. Mathematics was in the midst of a period of significant development in the late 15th century. Hindu-Arabic numerals and algebra were introduced to Europe from Arab mathematics at the end of the 10th century by the Benedictine monk Gerbert of Aurillac, but it was only after Leonardo Pisano (also known as Fibonacci) put commercial arithmetic, Hindu-Arabic numerals, and the rules of algebra together in his Liber Abaci in 1202 that Hindu-Arabic numerals became widely used in Italy.

Luca Pacioli and double-entry bookkeeping

Main articles: Luca Pacioli and Double-entry bookkeeping system

A double-entry bookkeeping system is defined as any bookkeeping system in which there was a debit and credit entry for each transaction, or for which the majority of transactions were intended to be of this form. The oldest discovered record of a complete double-entry system is the Messari (trans. treasurer's) accounts of the city of Genoa in 1340. The Messari accounts contain debits and credits journalised in a bilateral form, and contains balances carried forward from the preceding year, and therefore enjoy general recognition as a double-entry system.

Pacioli's portrait, a painting by Jacopo de' Barbari, 1495, (Museo di Capodimonte).The open book to which he is pointing may be his Summa de Arithmetica, Geometria, Proportioni et Proportionalità.

Although Luca Pacioli did not invent double-entry bookkeeping, which was developed by merchants in northern Italy sometime during the late 13th or early 14th centuries, his 27-page treatise on bookkeeping contained the first known published work on that topic, and is said to have laid the foundation for double-entry bookkeeping as it is practiced today. Even though Pacioli's treatise exhibits almost no originality, it is generally considered as an important work, mainly because of its wide circulation, it was written in vernacular Italian, and it was a printed book.

Pacioli's "Summa de Arithmetica, Geometria, Proportioni et Proportionalità" (trans. "Review of Arithmetic, Geometry, Ratio and Proportion") was first printed and published in Venice in 1494. It included a 27-page treatise on bookkeeping, "Particularis de Computis et Scripturis" (trans. "Details of Accounting and Recording"). It was written primarily for, and sold mainly to, merchants who used the book as a reference text, as a source of pleasure from the mathematical puzzles it contained, and to aid the education of their sons. It represents the first known printed treatise on bookkeeping; and it is widely believed to be the forerunner of modern bookkeeping practice. In Summa Arithmetica, Pacioli introduced symbols for plus and minus for the first time in a printed book, symbols that became standard notation in Italian Renaissance mathematics. Summa Arithmetica was also the first known book printed in Italy to contain algebra.

According to Pacioli, accounting is an ad hoc ordering system devised by the merchant. Its regular use provides the merchant with continued information about his business, and allows him to evaluate how things are going and to act accordingly. Pacioli recommends the Venetian method of double-entry bookkeeping above all others. Three major books of account are at the direct basis of this system: the memoriale ( trans. memorandum), the giornale (journal), and the quaderno (ledger). The ledger is considered as the central one and is accompanied by an alphabetical index.

The nature of double-entry can be grasped by recognizing that this system of bookkeeping did not simply record the things merchants traded so that they could keep track of assets or calculate profits and losses; instead as a system of writing, double-entry produced effects that exceeded transcription and calculation. One of its social effects was to proclaim the honesty of merchants as a group; one of its epistemological effects was to make its formal precision based on a rule bound system of arithmetic seem to guarantee the accuracy of the details it recorded. Even though the information recorded in the books of account was not necessarily accurate, the combination of the double entry system's precision and the normalizing effect that precision tended to create the impression that books of account were not only precise, but accurate as well. Instead of gaining prestige from numbers, double entry bookkeeping helped confer cultural authority on numbers.

Post-Pacioli

The spread of the Italian accounting rules over the rest of Europe and thence further afield, was the result of treatises, some of them strongly based on Pacioli's work, describing and explaining the system and its practice. The "Quaderno doppio" (trans. Double-entry Ledger, Venice, 1534) of Domenico Manzoni da Oderzo was one of the first reproductions of Pacioli's "Particularis de Computis et Scripturis". This work, important because of elaborate examples, was very popular and widespread among merchants: it enjoyed no less than seven editions between 1534 and 1574. Other books that are directly or indirectly based on Pacioli's work are Hugh Oldcastle's "A Profitable Treatyce called the Instrument or Boke to learne to knowe the good order of the kepyng of the famous reconynge called in Latyn, Dare and Habere, and in Englyshe, Debitor and Creditor" (London, 1543), a translation of Pacioli's treatise, and Wolfgang Schweicker's "Zwifach Buchhalten" (trans. Double-entry bookkeeping, Neurenberg, 1549), a translation of the "Quaderno doppio".

Between the publication of Pacioli's "Particularis de Computis et Scripturis" and the 19th century, there were few changes in accounting theory. There was a general theoretical consensus that the double-entry method was superior because it could solve so many accounting problems simultaneously, but despite this consensus, accounting practices were remarkably varied, and merchants in the 16th and 17th centuries seldom maintained the high standards of the double-entry method. The application of double entry bookkeeping varied across countries, industries, and individual firms, depending in part on its audience. This audience shifted in general from sole proprietorship alone to a larger more dispersed group of partnership, coinvestors, shareholders, and even eventually the state, as capitalism became more sophisticated.

Accounting scandals

Main article: Accounting scandals

The year 2001 witnessed a series of financial information frauds involving Enron Corporation, auditing firm Arthur Andersen, the telecommunications company WorldCom, Qwest and Sunbeam, among other well-known corporations. These problems highlighted the need to review the effectiveness of accounting standards, auditing regulations and corporate governance principles. In some cases, management manipulated the figures shown in financial reports to indicate a better economic performance. In others, tax and regulatory incentives encouraged over-leveraging of companies and decisions to bear extraordinary and unjustified risk.

The Enron scandal deeply influenced the development of new regulations to improve the reliability of financial reporting, and increased public awareness about the importance of having accounting standards that show the financial reality of companies and the objectivity and independence of auditing firms.

In addition to being the largest bankruptcy reorganization in American history, the Enron scandal undoubtedly is the biggest audit failure. The scandal caused the dissolution of Arthur Andersen, which at the time was one of the five largest accounting firms in the world. It involved a financial scandal of Enron Corporation and their auditors Arthur Andersen, which was revealed in late 2001. After a series of revelations involving irregular accounting procedures conducted throughout the 1990s, Enron filed for Chapter 11 bankruptcy protection in December 2001.

One consequence of these events was the passage of Sarbanes-Oxley Act in 2002, as a result of the first admissions of fraudulent behavior made by Enron. The act significantly raises criminal penalties for securities fraud, for destroying, altering or fabricating records in federal investigations or any scheme or attempt to defraud shareholders.