Download - Chapter 1 Financial Accounting

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Introduction to

Introduction to

Accounting and

Accounting and

BusinessBusiness

Chapter 1Chapter 1Chapter 1Chapter 1

Learning ObjectivesLearning Objectives

1.1. Describe the nature of a business and the role of Describe the nature of a business and the role of accounting and ethics in business.accounting and ethics in business.

2.2. Summarize the development of accounting principles Summarize the development of accounting principles and relate them to practice.and relate them to practice.

3.3. State the accounting equation and define each State the accounting equation and define each element of the equation.element of the equation.

4.4. Describe and illustrate how business transactions Describe and illustrate how business transactions can be recorded in terms of the resulting change in can be recorded in terms of the resulting change in the elements of the accounting equation.the elements of the accounting equation.

5.5. Describe the financial statements of a corporation Describe the financial statements of a corporation and explain how they interrelate.and explain how they interrelate.

6.6. Describe and illustrate the use of the ratio of Describe and illustrate the use of the ratio of liabilities to stockholders’ equity in evaluating a liabilities to stockholders’ equity in evaluating a company’s financial condition.company’s financial condition.


Learning Learning Objective

Objective Describe the nature of a

Describe the nature of a

business and the role of

business and the role of

accounting and ethics in

accounting and ethics in business.business.

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Nature of Business and AccountingNature of Business and Accounting

o A A businessbusiness is an organization in which is an organization in which basic resources (inputs), such as basic resources (inputs), such as materials and labor, are assembled and materials and labor, are assembled and processed to provide goods or services processed to provide goods or services (outputs) to customers.(outputs) to customers.


Nature of Business and AccountingNature of Business and Accounting

o The objective of most businesses is to The objective of most businesses is to earn a profit.earn a profit.

o Profit is the difference between the Profit is the difference between the amounts received from customers for amounts received from customers for goods or services and the amounts paid goods or services and the amounts paid for the inputs used to provide the goods or for the inputs used to provide the goods or services.services.

TYPES OF TYPES OF BUSINESSESBUSINESSES

Service BusinessService Business ServiceService

Delta Air Lines Transportation services

The Walt Disney Company Entertainment services

Merchandising BusinessMerchandising Business ProductProduct

Walmart General merchandise

Amazon.com Internet books, music, videos

Manufacturing BusinessManufacturing Business ProductProduct

Ford Motor Company Cars, trucks, vans

Dell, Inc. Personal computers


The Role of Accounting in BusinessThe Role of Accounting in Business

o AccountingAccounting can be defined as an can be defined as an information system that provides reports information system that provides reports to users about the economic activities and to users about the economic activities and condition of a business.condition of a business.


The Role of Accounting in BusinessThe Role of Accounting in Business

o The process by which accounting provides The process by which accounting provides information to users is as follows:information to users is as follows: Identify users.Identify users.

Assess users’ information needs.Assess users’ information needs.

Design the accounting information system to Design the accounting information system to meet users’ needs.meet users’ needs.

Record economic data about business activities Record economic data about business activities and events.and events.

Prepare accounting reports for users.Prepare accounting reports for users.

THE ROLE OF THE ROLE OF ACCOUNTING ACCOUNTING IN BUSINESSIN BUSINESS


Managerial AccountingManagerial Accounting

o The area of accounting that provides The area of accounting that provides internal users with information is called internal users with information is called managerial accounting managerial accounting oror management management accountingaccounting..

o Managerial accountants employed by a Managerial accountants employed by a business are employed in business are employed in private private accountingaccounting..


Financial AccountingFinancial Accounting

o The area of accounting that provides The area of accounting that provides external users with information is called external users with information is called financial accountingfinancial accounting..

o The objective of financial accounting is to The objective of financial accounting is to provide relevant and timely information provide relevant and timely information for the decision-making needs of users for the decision-making needs of users outside of the business.outside of the business.

o General-purpose financial statementsGeneral-purpose financial statements are are one type of financial accounting report one type of financial accounting report that is distributed to external users.that is distributed to external users.


Role of Ethics in Accounting and Role of Ethics in Accounting and BusinessBusinesso The objective of accounting is to provide The objective of accounting is to provide

relevant, timely information for user relevant, timely information for user decision making.decision making.

o Accountants must behave in an ethical Accountants must behave in an ethical manner so that the information they manner so that the information they provide users will be trustworthy and, provide users will be trustworthy and, thus, useful for decision making.thus, useful for decision making.

o EthicsEthics are moral principles that guide the are moral principles that guide the conduct of individuals.conduct of individuals.

ROLE OF ROLE OF ETHICS IN ETHICS IN

ACCOUNTING ACCOUNTING AND BUSINESSAND BUSINESS

ROLE OF ETHICS IN ACCOUNTING AND ROLE OF ETHICS IN ACCOUNTING AND BUSINESSBUSINESS

The answer to …The answer to …

“What went wrong for “What went wrong for these companies?”these companies?”

involves one or both involves one or both of these factors. of these factors.

(Exhibit 2)(Exhibit 2)

Failure of individual Failure of individual charactercharacter

Firm culture of Firm culture of greed and ethical greed and ethical indifferenceindifference

ROLE OF ROLE OF ETHICS IN ETHICS IN

ACCOUNTING ACCOUNTING AND BUSINESSAND BUSINESS


Opportunities for AccountantsOpportunities for Accountants

o Accountants and their staffs who provide Accountants and their staffs who provide services on a fee basis are said to be services on a fee basis are said to be employed in employed in public accountingpublic accounting..

o Accountants employed by a business firm Accountants employed by a business firm or a not-for-profit organization are said to or a not-for-profit organization are said to be employed in be employed in private accountingprivate accounting..

o Public accountants who have met a state’s Public accountants who have met a state’s education, experience, and examination education, experience, and examination requirements may become requirements may become Certified PublicCertified Public Accountants (CPAs)Accountants (CPAs)..

OPPORTUNITIEOPPORTUNITIES FOR S FOR

ACCOUNTANTSACCOUNTANTS



ObjectiveSummarize the development of

Summarize the development of

accounting principles and relate

accounting principles and relate them to practice.

them to practice.

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Generally Accepted Accounting PrinciplesGenerally Accepted Accounting Principles

o Financial accountants follow Financial accountants follow generally generally accepted accounting principles (GAAP)accepted accounting principles (GAAP) in in preparing reports.preparing reports.

o Within the U.S., the Within the U.S., the Financial Accounting Financial Accounting Standards Board (FASB)Standards Board (FASB) has the primary has the primary responsibility for developing accounting responsibility for developing accounting principles.principles.


Generally Accepted Accounting PrinciplesGenerally Accepted Accounting Principles

o The The Securities and Exchange Commission Securities and Exchange Commission ((SECSEC), an agency of the U.S. government, ), an agency of the U.S. government, has authority over the accounting and has authority over the accounting and financial disclosures for companies whose financial disclosures for companies whose shares of ownership (stock) are traded and shares of ownership (stock) are traded and sold to the public.sold to the public.

o Many countries outside the United States Many countries outside the United States use generally accepted accounting use generally accepted accounting principles adopted by the principles adopted by the International International Accounting Standards Board Accounting Standards Board ((IASBIASB).).


Business Entity ConceptBusiness Entity Concept

o Under the Under the business entity conceptbusiness entity concept, the , the activities of a business are recorded activities of a business are recorded separately from the activities of its separately from the activities of its owners, creditors, or other businesses.owners, creditors, or other businesses.

PROPRIETORSHIPPROPRIETORSHIP

A A proprietorshipproprietorship is is owned by one owned by one individual.individual.

70% of business 70% of business entities in the entities in the U.S. are U.S. are proprietorships.proprietorships.

They are easy They are easy and cheap to and cheap to organize.organize.

Resources are Resources are limited to those limited to those of the owner.of the owner.

Used by small Used by small businesses.businesses.

PARTNERSHIPPARTNERSHIP

A A partnershippartnership is is similar to a similar to a proprietorship proprietorship except that it is except that it is owned by two or owned by two or more individuals.more individuals.

10% of business 10% of business organizations in organizations in the U.S. the U.S. (combined with (combined with limited liability limited liability companies) are companies) are partnerships.partnerships.

Combines the Combines the skills and skills and resources of more resources of more than one person.than one person.

CORPORATIONCORPORATION

A A corporationcorporation is is organized under state organized under state or federal statutes as or federal statutes as a separate legal a separate legal taxable entity.taxable entity.

Corporations Corporations generate 90% of generate 90% of business revenues.business revenues.

20% of the business 20% of the business organizations in the organizations in the U.S. are corporations.U.S. are corporations.

Ownership is divided Ownership is divided into shares, called into shares, called stock.stock.

Can obtain large Can obtain large amounts of resources amounts of resources by issuing stocks.by issuing stocks.

Used by large Used by large businesses.businesses.

LIMITED LIABILITY COMPANY LIMITED LIABILITY COMPANY (LLC)(LLC)

A A limited liability limited liability company (LLC)company (LLC) combines the combines the attributes of a attributes of a partnership and a partnership and a corporation.corporation.

10% of business 10% of business organizations in the organizations in the U.S. (combined U.S. (combined with partnerships).with partnerships).

Often used as an Often used as an alternative to a alternative to a partnership.partnership.

Has tax and legal Has tax and legal liability advantages liability advantages for owners.for owners.


Cost ConceptCost Concept

o Under the Under the cost conceptcost concept, amounts are , amounts are initially recorded in the accounting records initially recorded in the accounting records at their cost or purchase price.at their cost or purchase price.


Cost ConceptCost Concept

o Aaron Publishers purchased a building on Aaron Publishers purchased a building on February 20, 2012, for $150,000. Other February 20, 2012, for $150,000. Other amounts related to this purchased are amounts related to this purchased are shown on the next slide.shown on the next slide.


Cost ConceptCost Concept• Price listed by seller on January 1, 2012Price listed by seller on January 1, 2012 $160,000$160,000

• Aaron Publishers’ initial offer to buy on Aaron Publishers’ initial offer to buy on January 31, 2012 January 31, 2012 140,000 140,000

• Purchase price on February 20, 2012Purchase price on February 20, 2012 150,000150,000

• Estimated selling price on Estimated selling price on December 31, 2014December 31, 2014 220,000 220,000

• Assessed value for property taxes, Assessed value for property taxes, December 31, 2014December 31, 2014 190,000 190,000

Under the cost concept, Aaron Publishers records the purchase of the building on February 20, 2012, at the purchase price of

$150,000

The other amounts listed above have no effect on the accounting records.


Objectivity ConceptObjectivity Concept

o The The objectivity conceptobjectivity concept requires that the requires that the amounts recorded in the accounting amounts recorded in the accounting records be based on objective evidence.records be based on objective evidence.

o Only the final agreed-upon amount is Only the final agreed-upon amount is objective enough to be recorded in the objective enough to be recorded in the accounting records.accounting records.


Unit of Measure ConceptUnit of Measure Concept

o The The unit of measure conceptunit of measure concept requires that requires that economic data be recorded in dollars.economic data be recorded in dollars.



ObjectiveState the accounting equation

State the accounting equation

and define each element of the

and define each element of the equation.equation.

33


The Accounting EquationThe Accounting Equation

o The resources owned by a business are its The resources owned by a business are its assetsassets..

o The rights of creditors are the debts of the The rights of creditors are the debts of the business and are called business and are called liabilitiesliabilities..

o The rights of the owners are called The rights of the owners are called stockholders’ equity stockholders’ equity for a corporation and for a corporation and owner’s equity owner’s equity for a proprietorship, for a proprietorship, partnership, or limited liability company.partnership, or limited liability company.

o The equation The equation Assets = Liabilities + Assets = Liabilities + Stockholders’ EquityStockholders’ Equity is called the is called the accounting accounting equationequation..

The resources owned by a

business

Assets = Liabilities + Stockholders’ Equity

THE THE ACCOUNTING ACCOUNTING

EQUATIONEQUATION



EQUATIONEQUATION

The rights of creditors are the

debts of the business

The rights of the owners



EQUATIONEQUATION



ObjectiveDescribe and illustrate how business

Describe and illustrate how business

transactions can be recorded in terms

transactions can be recorded in terms

of the resulting change in the elements

of the resulting change in the elements

of the accounting equation.

of the accounting equation.

44

Business TransactionBusiness Transaction

1.1.A A business transactionbusiness transaction is an economic is an economic event or condition that directly changes event or condition that directly changes an entity’s financial condition or its results an entity’s financial condition or its results of operations.of operations.

On November 1, 2013, Chris Clark deposited $25,000 in a bank account in the name of NetSolutions.

TRANSACTION TRANSACTION AA

On November 5, 2013, NetSolutions paid $20,000 for the purchase of land as a future building site.

TRANSACTION TRANSACTION BB

On November 10, 2013, NetSolutions purchased supplies for $1,350 and agreed to pay the supplier in the near future.

TRANSACTION TRANSACTION CC


Transaction CTransaction C

o The liability created by a purchase on The liability created by a purchase on account is called an account is called an account payableaccount payable..

o Items such as supplies that will be used in Items such as supplies that will be used in the business in the future are called the business in the future are called prepaid expensesprepaid expenses, which are assets., which are assets.

TRANSACTION TRANSACTION DD

On November 18, 2013, NetSolutions received cash of $7,500 for providing services to customers. A business earns money by selling goods or services to its customers. This amount is called revenue.


Transaction DTransaction D

o Revenue from providing services is Revenue from providing services is recorded as fees earned.recorded as fees earned.

o Revenue from the sale of merchandise is Revenue from the sale of merchandise is recorded as sales.recorded as sales.

o Other examples of revenue include rent, Other examples of revenue include rent, which is recorded as rent revenue, and which is recorded as rent revenue, and interest, which is recorded as interest interest, which is recorded as interest revenue.revenue.

o An account receivable is a claim against a An account receivable is a claim against a customer, which is an asset.customer, which is an asset.

TRANSACTION TRANSACTION EE

During the month, NetSolutions spent cash or used up other assets in earning revenue. Assets used in this process of earning revenue are called expenses.

On November 30, 2013, NetSolutions paid the following expenses: wages, $2,125; rent, $800; utilities, $450; and miscellaneous, $275.

TRANSACTION TRANSACTION EE

On November 30, 2013, NetSolutions paid creditors on account, $950.

TRANSACTION TRANSACTION FF

On November 30, 2013, Chris Clark determined that the cost of supplies on hand at the end of the period was $550.

TRANSACTION TRANSACTION GG

On November 30, 2013, NetSolutions paid $2,000 to stockholders (Chris Clark) as dividends.

TRANSACTION TRANSACTION HH

SUMMARYSUMMARY

RETAINED RETAINED EARNINGSEARNINGS


You Should Note the Following:You Should Note the Following:

o The effect of every transactions is an The effect of every transactions is an increase or a decrease in one or more of increase or a decrease in one or more of the accounting equation elementsthe accounting equation elements..

o The two sides of the accounting equation The two sides of the accounting equation are are always equalalways equal..

o The stockholders’ equity (owner’s equity) The stockholders’ equity (owner’s equity) is is increased by amounts invested increased by amounts invested by by stockholders (capital stock).stockholders (capital stock).


You Should Note the Following:You Should Note the Following:

o The stockholders’ equity (owner’s equity) The stockholders’ equity (owner’s equity) is is increased by revenues and decreased increased by revenues and decreased by expensesby expenses..

o The stockholders’ equity (owner’s equity) The stockholders’ equity (owner’s equity) is is decreased by dividends paiddecreased by dividends paid to to stockholdersstockholders..

o Retained earnings Retained earnings is the stockholders’ is the stockholders’ equity created from business operations equity created from business operations through revenue and expense through revenue and expense transactions.transactions.

TYPES OF TYPES OF TRANSACTIONS TRANSACTIONS

AFFECTING AFFECTING OWNER’S EQUITYOWNER’S EQUITY



ObjectiveDescribe the financial

Describe the financial

statements of a corporation and

statements of a corporation and

explain how they interrelate.

explain how they interrelate.

55


Financial StatementsFinancial Statements

o After transactions have been recorded After transactions have been recorded and summarized, reports are prepared for and summarized, reports are prepared for users. The accounting reports providing users. The accounting reports providing this information are called this information are called financial financial statementsstatements..

FINANCIAL FINANCIAL STATEMENTSSTATEMENTS


Income StatementIncome Statement

o The The income statementincome statement reports the revenues reports the revenues and expenses for a period of time, based on and expenses for a period of time, based on the the matching conceptmatching concept..

o The matching concept is applied by The matching concept is applied by “matching” the expenses incurred during a “matching” the expenses incurred during a period with the revenue that those expenses period with the revenue that those expenses generated.generated.

o The excess of the revenue over the expenses The excess of the revenue over the expenses is called is called net incomenet income, , net profitnet profit, or , or earningsearnings. If . If expenses exceed revenue, the excess is a expenses exceed revenue, the excess is a net lossnet loss. .


Retained Earnings StatementRetained Earnings Statement

o The The retained earnings statementretained earnings statement reports reports the changes in the retained earnings for a the changes in the retained earnings for a period of time.period of time.

o It is prepared It is prepared afterafter the income statement the income statement because the net income or net loss for the because the net income or net loss for the period must be reported in this statement.period must be reported in this statement.


Retained Earnings StatementRetained Earnings Statement

o To illustrate, assume that NetSolutions earned net To illustrate, assume that NetSolutions earned net income of $4,155 and paid dividends of $2,000 income of $4,155 and paid dividends of $2,000 during December. The following statement would during December. The following statement would be prepared.be prepared.

Net income is carried to the Net income is carried to the retained earnings statementretained earnings statement

INCOME INCOME STATEMENTSTATEMENT

From the income statementFrom the income statement

To the balance sheetTo the balance sheet

RETAINED RETAINED EARNINGS EARNINGS

STATEMENTSTATEMENT


Balance SheetBalance Sheet

o A A balance sheetbalance sheet is a list of the assets, is a list of the assets, liabilities, and stockholders’ equity as of a liabilities, and stockholders’ equity as of a specific date.specific date.


Account FormAccount Form

o The The account formaccount form of a balance sheet lists of a balance sheet lists the assets on the left and the liabilities the assets on the left and the liabilities and stockholders’ equity on the right. It and stockholders’ equity on the right. It resembles the basic format of the resembles the basic format of the accounting equation.accounting equation.

This amount is compared This amount is compared to the net cash flow on the to the net cash flow on the

statement of cash flows.statement of cash flows.From the retained From the retained

earnings statementearnings statement

BALANCE BALANCE SHEETSHEET


Statement of Cash FlowsStatement of Cash Flows

o A A statement of cash flowsstatement of cash flows is a summary of is a summary of the cash receipts and cash payments for a the cash receipts and cash payments for a specific period of time.specific period of time. It consists of three sections: It consists of three sections:

(1) operating activities(1) operating activities(2) investing activities(2) investing activities(3) financing activities(3) financing activities

This amount should match This amount should match CashCash on the balance sheet. on the balance sheet.

STATEMENT OF STATEMENT OF CASH FLOWSCASH FLOWS


Cash Flows from Operating ActivitiesCash Flows from Operating Activities

o The The cash flows from operating activitiescash flows from operating activities section reports a summary of cash section reports a summary of cash receipts and cash payments from receipts and cash payments from operations.operations.


Cash Flows from Investing ActivitiesCash Flows from Investing Activities

o The The cash flows from investing activitiescash flows from investing activities section reports the cash transactions for section reports the cash transactions for the acquisition and sale of relatively the acquisition and sale of relatively permanent assets.permanent assets.


Cash Flows from Financing ActivitiesCash Flows from Financing Activities

o The The cash flows from financing activitiescash flows from financing activities section reports the cash transactions section reports the cash transactions related to cash investments by related to cash investments by stockholders, borrowings, and cash stockholders, borrowings, and cash dividends.dividends.

INTERRELATIONSINTERRELATIONSHIPS AMONG HIPS AMONG FINANCIAL FINANCIAL

STATEMENTSSTATEMENTS


Interrelationships Among Financial Interrelationships Among Financial StatementsStatements

o In Exhibit 6, NetSolutions’ net income of $3,050 In Exhibit 6, NetSolutions’ net income of $3,050 for November is added to the beginning retained for November is added to the beginning retained earnings on November 1, 2013, in the retained earnings on November 1, 2013, in the retained earnings statement.earnings statement.



o In Exhibit 6, NetSolutions’ retained earnings of In Exhibit 6, NetSolutions’ retained earnings of $1,050 as of November 30, 2013, on the retained $1,050 as of November 30, 2013, on the retained earnings statement also appears on the November earnings statement also appears on the November 30, 20l3, balance sheet as retained earnings. 30, 20l3, balance sheet as retained earnings.



o In Exhibit 6, cash of $5,900 reported on the In Exhibit 6, cash of $5,900 reported on the balance sheet as of November 30, 2013, is also balance sheet as of November 30, 2013, is also reported on the November statement of cash flows reported on the November statement of cash flows as the end-of-period cash.as the end-of-period cash.



ObjectiveDescribe and illustrate the use of

Describe and illustrate the use of

the ratio of liabilities to

the ratio of liabilities to

stockholders’ equity in evaluating a

stockholders’ equity in evaluating a

company’s financial condition.

company’s financial condition.

66

RATIO OF RATIO OF LIABILITIES TO LIABILITIES TO

STOCKHOLDERS’STOCKHOLDERS’EQUITYEQUITY

Ratio of Liabilities to Stockholders’ Equity

=Total Liabilities

Total Stockholders’ Equity

Ratio of Liabilities to Stockholders’ Equity

=$400

$26,050= 0.015


Introduction to

Introduction to

Accounting and

Accounting and

BusinessBusiness

The EndThe EndThe EndThe End

Download - Chapter 1 Financial Accounting

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