Accounting and the

Business Environment

Chapter 1

Objective 1

Use accounting vocabulary

is an information system that...

measures business activities,

processes information, and...

communicates financial information.

Accounting...

is called the language of business.

Accounting...

External users

make decisions

about the entity.

Internal users

make decisions

for the entity.

Users of Accounting Information

Management Accounting

Financial Accounting

Fields of Accounting

Public Sector

(SEC)

Private Sector

(FASB)

Private Sector

(AICPA) (IMA)

GAAP

The Authority Underlying

Accounting

AICPA’s Code of

Professional

Conduct

Standards of

Ethical

Conduct of the

Institute of

Management

Accountants

Standards of Professional

Conduct

Proprietorships

Partnerships

Corporations

Types of Business Organizations

Proprietorships

What are some advantages?

– total undivided authority

– no restrictions on type of business – must

be legal

What are some disadvantages?

– unlimited liability

– limitation on size – fund raising power

Partnerships

What are some advantages?

better credit standing – possibly

– more brain power, but consultation with

partners required

What are some disadvantages?

– unlimited personal liability for general

partners

– need for written partnership agreement

Corporations

What are some advantages?

– separate legal existence

– limited liability of stockholders

– transferability of ownership relatively easy

What are some disadvantages?

– taxes – possible double taxation

– extensive governmental regulation

Objective 2

Apply Accounting

Concepts and Principles

To provide information useful

for making investment and

lending decisions

Generally Accepted

Accounting Principles

What is the primary objective of financial

reporting?

The Entity Concept Example

Assume that John decides to open up a gas

station and coffee shop.

The gas station made $250,000 in profits,

while the coffee shop lost $50,000.

The Entity Concept Example

How much money did John make?

At a first glance, we would assume that

John made $200,000.

However, by applying the entity concept we

realize that the gas station made $250,000

while the coffee shop lost $50,000.

Information must be reasonably

accurate.

Information must be free from bias.

Information must report what

actually happened.

Individuals would arrive at similar

conclusions using same data.

The Reliability (Objectivity)

Principle

Assets and services

acquired

should be recorded

at their actual cost.

The Cost Principle

The entity will continue

to operate in the future.

The Going Concern Concept

The dollar’s purchasing

power is relatively

stable.

The Stable-Monetary-Unit Concept

Objective 3

Use the Accounting Equation

Economic

Resources

Claims to

Economic

Resources

The Accounting Equation

Assets = Liabilities + Owner’s Equity

Assets

What is an asset?

It is something a company owns which has

future economic value.

– land

– building

– equipment

– goodwill

Liability

What is a liability?

It is something a company owes.

– money

– service – legal retainers

– product – magazines

Owner’s Equity

What is owner’s equity?

It is what’s left of the assets after liabilities

have been deducted.

– the same as net assets

– the owner’s claim on the entity’s assets

Transactions that Affect

Owner’s Equity OWNER’S EQUITY

INCREASES

OWNER’S EQUITY DECREASES

Owner Investments

in the Business

Revenues Expenses

Owner Withdrawals

from the Business

Owner’s Equity

Revenues

What are revenues?

They are amounts received or to be

received from customers for sales of

products or services.

– sales

– performance of services

– rent

– interest

Expenses

What are expenses?

They are amounts that have been paid or

will be paid later for costs that have been

incurred to earn revenue.

– salaries and wages

– utilities

– supplies used

– advertising

Objective 4

Analyze Business Transactions

Accounting for Business

Transactions

What is a transaction?

It is any event that both affects the financial

position of the business and can be reliably

recorded.

Accounting for Business

Transactions

1 Gay Gillen invests $30,000 to begin Gay

Gillen eTravel.

2 Gillen purchases an office location, paying

$20,000 in cash.

3 She buys office supplies, agreeing to pay

$500 in 30 days.

4 She earns and collects $5,500 revenues.

Accounting for Business

Transactions

5 Gillen performs services, and the client

agrees to pay $3,000 within one month.

6 During the month, she pays $3,300 for

expenses incurred.

7 Gillen pays $300 to the store from which

she purchased $500 worth of supplies.

What is the effect of these transactions on

the accounting equation?

Owner’s Assets = Liabilities + Equity

1) Cash + $30,000 + $30,000

2) Cash – 20,000

Land + 20,000

3) Supplies + 500 + 500

4) Cash + 5,500 + 5,500

5) Receivable + 3,000 + 3,000

6) Cash – 3,300 – 3,300

7) Cash – 300 – 300

Totals + $35,400 + 200 + $35,200

Accounting for Business

Transactions

Accounting for Business

Transactions

Notice that the equation always stays in

balance.

Each transaction affects at least two

accounts, sometimes more.

Some transactions affect only one side of

the equation; some affect both sides.

Accounting for Business

Transactions

Other transactions that took place were as

follows:

The business collected $1,000 from the

client.

She sold some land at cost for $9,000.

She withdrew $2,000 from the business.

Objective 5

Prepare Financial Statements

– are the final

product of the

accounting process.

– tell how the

business is performing

and where it stands.

Financial Statements...

Financial Statements

– income statement

– statement of owner’s equity or retained

earnings

– balance sheet

– statement of cash flows

Objective 6

Evaluate Business Performance

Relationships Among the Statements:

Income Statement

Revenue:

Fees earned $8,500

Expenses:

Salary expense $1,200

Utilities and telephone expense 400

Equipment rental expense 600

Office rent expense 1,100 3,300

Net income $5,200

G. Gillen, capital, April 1, 20xx $ 0

Contribution of capital 30,000

Net income $ 5,200

Cash distributions – 2,000

G. Gillen, capital, April 30, 20xx $33,200

Relationships Among the Statements:

Statement of Owner’s Equity

Relationships Among the Statements:

Balance Sheet

Assets

Cash $19,900

Accounts receivable 2,000

Supplies 500

Land 11,000

Total assets $ 33,400

Liabilities

Accounts payable $ 200

Owner’s equity,

G. Gillen, capital 33,200

Total liabilities and

owner’s equity $33,400

Relationships Among the Statements:

Statement Of Cash Flows

Cash flows from operating activities:

Cash receipts from services rendered $6,500

Cash payments:

Supplies $ 300

Operating expenses 3,300 3,600

Net cash flows from

Operating activities $2,900

Cash flows from investing activities

Purchase and sale of land ($11,000)

Cash Flows from Financing Activities:

Investment by Owner $30,000

Withdrawals 2,000

Net Cash Flows from

Financing Activities $28,000

Cash at Beginning of Year 0

Cash at End of the Year $19,900

Relationships Among the Statements:

Statement Of Cash Flows

End of Chapter

1