Chapter 1

ACCOUNTING IN BUSINESS

PowerPoint Authors:
Susan Coomer Galbreath, Ph.D., CPA
Charles W. Caldwell, D.B.A., CMA
Jon A. Booker, Ph.D., CPA, CIA
Cynthia J. Rooney, Ph.D., CPA
Winston Kwok, Ph.D., CPA
McGraw-Hill/Irwin

Copyright 2014 by The McGraw-Hill Companies, Inc. All rights reserved.

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HISTORY OF ACCOUNTING
The

practice of accounting can be traced back to

ancient civilizations Mesopotamia, Egypt, etc.
Luca Pacioli, the Father of Accounting, published
the first book on double entry accounting in 1494
titled Summa de Arithmetica, Geometria,
Propertioni et Proportionalita (Everything About
Arithmetic, Geometry and Proportion).
The book describes double-entry system and
accounting cycle as practiced by Venice
merchants.

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C1

IMPORTANCE OF ACCOUNTING
Accounting
Identifying
Select transactions and events
Recording
Input, measure and classify
Communicating
Prepare, analyze and interpret

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AL-BAQARAH, VERSE 282

O believers! When you deal with each other in lending for a fixed period of
time, put it in writing. Let a scribe write it down with justice between the
parties. The scribe, who is given the gift of literacy by Allah, should not refuse
to write; he is under obligation to write. Let him who incurs the liability (debtor)
dictate, fearing Allah his Rabb and not diminishing anything from the
settlement. If the borrower is mentally unsound or weak or is unable to dictate
himself, let the guardian of his interests dictate for him with justice. Let two
witnesses from among you bear witness to all such documents, if two men
cannot be found, then one man and two women of your choice should bear
witness, so that if one of the women forgets anything the other may remind
her. The witnesses must not refuse when they are called upon to do so. You
must not be averse to writing (your contract) for a future period, whether it is a
small matter or big. This action is more just for you in the sight of Allah,
because it facilitates the establishment of evidence and is the best way to
remove all doubts; but if it is a common commercial transaction concluded on
the spot among yourselves, there is no blame on you if you do not put it in
writing. You should have witnesses when you make commercial transactions.
Let no harm be done to the scribe or witnesses; and if you do so, you shall be
guilty of transgression. Fear Allah; it is Allah that teaches you and Allah has
knowledge of everything.

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C2

USERS OF ACCOUNTING
INFORMATION
External Users

Lenders
Consumer Groups
Shareholders External Auditors
Governments Customers

Internal Users

Managers
Officers/Directors
Internal Auditors

Sales Staff
Budget Officers
Controllers

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C2

USERS OF ACCOUNTING
INFORMATION
External Users

Financial accounting
provides external users
with financial statements.

Internal Users

Managerial accounting
provides information needs
for internal decision-makers.

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OPPORTUNITIES IN
ACCOUNTING

1-7

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C3

ETHICS - A KEY CONCEPT

Beliefs that
distinguish right
from wrong

Accepted standards
of good and bad
behavior

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C3

ETHICS - A KEY CONCEPT

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C4

GENERALLY ACCEPTED
ACCOUNTING PRINCIPLES
Financial accounting practice is governed by concepts
and rules known as generally accepted accounting
principles (GAAP).
Relevant Information

Affects the decision of its users.

Reliable
Reliable Information

Is trusted by users.

Comparable
Information
Information

Is helpful in
in contrasting
organizations.

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C4

INTERNATIONAL STANDARDS
The International Accounting Standards Board (IASB), an
independent group (consisting of 16 individuals from many
countries), issues International Financial Reporting Standards
(IFRS) that identify preferred accounting practices.

IASB

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C4

PRINCIPLES AND ASSUMPTIONS

OF ACCOUNTING

Revenue Recognition Principle

1.
2.
3.

Recognize revenue when it is earned.

Proceeds need not be in cash.
Measure revenue by cash received
plus cash value of items received.

Expense Recognition or
Matching Principle
A company must record its expenses
incurred to generate the revenue reported.

Cost Principle
Accounting information is based on
actual cost. Actual cost is
considered objective.

Full Disclosure Principle

A company is required to report the
details behind financial statements that
would impact users decisions.

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C4

ACCOUNTING ASSUMPTIONS
Now

Future

Going-Concern Assumption
Reflects assumption that the business
will continue operating instead of being
closed or sold.

Monetary Unit Assumption

Express transactions and events in
monetary, or money, units.

Business Entity Assumption

Time Period Assumption

A business is accounted for

separately from other business
entities, including its owner.

Presumes that the life of a company can

be divided into time periods, such as
months and years.

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C4

FORMS OF BUSINESS ENTITIES

Sole
Sole
Proprietorship
Proprietorship

Partnership
Partnership

Corporation
Corporation

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C4

CORPORATION

Owners of a corporation or company are called

shareholders (or stockholders). Shareholders are
not personally liable for corporate acts. When a
corporation issues only one class of shares, we
call it ordinary shares (or common stock).

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C4

ACCOUNTING CONSTRAINTS

The materiality constraint prescribes that only

information that would influence the decisions of
a reasonable person need be disclosed. This
constraint looks at both the relative size and
importance of an amount.
The cost-benefit constraint prescribes that only
information with benefits of disclosure greater
than the costs of providing it need be disclosed.

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C4

IASB CONCEPTUAL
FRAMEWORK FOR FINANCIAL
REPORTING

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A1

TRANSACTION ANALYSIS AND

THE ACCOUNTING EQUATION
Accounting Equation

Assets

= Liabilities + Equity

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A1

ASSETS
Cash
Accounts
Receivable

Vehicles

Store
Supplies

Resources
owned or
controlled by a
company
expected to
yield future
benefits.
Equipment

Notes
Receivable

Land

Buildings

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A1

LIABILITIES
Accounts
Payable

Notes
Payable

Creditors
claims on
assets
Taxes
Payable

Wages
Payable

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A1

EQUITY
Owners
Claims on
Assets

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P1

TRANSACTION ANALYSIS
Business

activities can be transactions and events.

Record those that affect the accounting equation and can
be reliably measured.
Example of transactions:
Selling of products and services (external transactions).
The business used its supplies, which are reported as
expenses (internal transactions).
Examples of events:
Changes in the market value of certain assets and liabilities and
natural events such as floods and fires that destroy assets and
create losses.

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P1

TRANSACTION ANALYSIS
The accounting equation MUST remain in
balance after each transaction.

Assets
Assets

Liabilities
Liabilities

Equity
Equity

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P1

TRANSACTION 1: ISSUANCE OF
SHARES

Chas Taylor receives shares for investing $30,000 cash to

start a consulting business set up as a corporation called
Fastforward. Transactions 1 to 11 are for Fastforward.
The accounts involved are:

(1) Cash (asset)

(2) Share Capital (equity)

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P1

TRANSACTION 2: PURCHASE
SUPPLIES FOR CASH
Purchases supplies paying $2,500 cash.
The accounts involved are:
(1) Cash (asset)
(2) Supplies (asset)

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P1

TRANSACTION 3: PURCHASE
EQUIPMENT FOR CASH
Purchases equipment for $26,000 cash.
The accounts involved are:
(1) Cash (asset)
(2) Equipment (asset)

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P1

TRANSACTION 4: PURCHASE
SUPPLIES ON CREDIT
Purchases supplies of $7,100 on account.
The accounts involved are:
(1) Supplies (asset)
(2) Accounts Payable (liability)

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P1

TRANSACTION 5: PROVIDE
SERVICES FOR CASH

Provides consulting services receiving $4,200

cash.
The accounts involved are:
(1) Cash (asset)
(2) Revenue (equity)

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P1

TRANSACTION 6 AND 7: PAYMENT

OF EXPENSES
Pays $1,000 rent and $700 in salary to the
companys only employee.
The accounts involved are:
(1) Cash (asset)
(2) Expenses
(equity

By definition, increases in
expenses yield decreases
in equity

P1

TRANSACTION 8: PROVIDE
SERVICES AND FACILITIES FOR
CREDIT

1 - 30

Provides consulting services of $1,600 and rents

out its test facilities for $300, both on account.
The accounts involved are:
(1) Accounts Receivable (asset)
(2) Revenues (equity)

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P1

TRANSACTION 9: RECEIPT OF CASH

FROM ACCOUNTS RECEIVABLE

Receives $1,900 from client of test facilities in

transaction 8.
The accounts involved are:
(1) Cash (asset)
(2) Accounts Receivable (asset)

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P1

TRANSACTION 10: PAYMENT

OF ACCOUNTS PAYABLE

Pays $900 as partial payment for transaction 4

on supplies.
The accounts involved are:
(1) Cash (asset)
(2) Accounts Payable (liability)

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P1

TRANSACTION 11: PAYMENT OF

DIVIDEND
Pays dividend.
The accounts involved are:
(1) Cash (asset)
(2) Dividends
(equity

By definition, increases in dividends yield decreases in equity

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P1

SUMMARY OF TRANSACTIONS

Other transactions were executed during December and the summary of

all transactions is shown below:

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P2

FINANCIAL STATEMENTS

Statement of comprehensive
income (income statement)
Statement of changes in equity
Statement of financial position
Statement of cash flows

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P2

INCOME STATEMENT

to Statement of
Changes in Equity

The income statement describes a companys revenues and

expenses along with the resulting net income or loss over a
period of time due to earnings activities.

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P2

STATEMENT OF CHANGES IN EQUITY

from
Income
Statement

to Statement
of Financial
Position

The statement of changes in equity reports information about

how equity changes over the reporting period.

P2

STATEMENT OF FINANCIAL
POSITION
The Statement of Financial Position describes a
companys financial position at a point in time.
from Statement of
Changes in Equity

to Statement of Cash Flows

1 - 38

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P2

STATEMENT OF CASH FLOWS

from Statement of
Financial Position

The Statement of Cash Flows describes a companys cash

flows for operating, investing, and financing activities.

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A2

DECISION ANALYSIS
Return on assets (ROA) is stated in ratio form as
income divided by assets invested.
Return on assets =

Net income
Average total assets

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A3

1A RETURN AND RISK ANALYSIS

Many different
returns may be
reported.
ROA
Interest return on
savings accounts.
Interest return on
corporate bonds.

Risk is the
uncertainty about
the return we will
earn.
The lower the risk, the lower our expected return.

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C5

1B - BUSINESS ACTIVITIES AND

THE ACCOUNTING EQUATION
There are three major types of activities in any organization:
1.Financing Activities Provide the means organizations
use to pay for resources such as land, buildings, and
equipment to carry out plans.
2.Investing Activities - Are the acquiring and disposing of
resources (assets) that an organization uses to acquire and
sell its products or services.
3.Operating Activities Involve using resources to research,
develop, and purchase, produce, distribute, and market
products and services.

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END OF CHAPTER 1