Financial Accounting Information for Decisions

John J. Wild 4th Edition

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Chapter 1
Introducing Accounting in Business

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Conceptual Chapter Objectives

C1: Explain the purpose and importance of accounting in the information age C2: Identify users and uses of accounting C3: Identify opportunities in accounting and related fields C4: Explain why ethics are crucial in accounting C5: Explain the meaning of GAAP, and define and apply several key accounting principles C6: Appendix 1B: Identify and describe the three major activities in organizations
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Analytical Chapter Objectives

A1: Define and interpret the accounting equation and each of its components A2: Analyze business transactions using the accounting equation A3: Compute and interpret return on assets A4: Appendix 1A: Explain the relationship between return and risk

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Procedural Chapter Objectives

P1: Identify and prepare basic financial

statements and explain how they interrelate

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C1

Importance of Accounting
Accounting Accounting is a system that Identifies Identifies Records Records Relevant Relevant Reliable Reliable Comparable Comparable to help users make to help users make better decisions. better decisions.
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information that is

Communicates Communicates

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C1

Accounting Activities
Recording Business Activities

Identifying Business Activities

Communicating Business Activities

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C2

Users of Accounting Information

External Users Internal Users

Lenders

Consumer Groups

Managers Internal Auditors

Sales Staff Controllers

Shareholders External Auditors Governments Customers

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Officers/Directors Budget Officers

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C2

Users of Accounting Information

External Users Internal Users

Financial accounting provides external users with financial statements.

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Managerial accounting provides information needs for internal decision makers.

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C3

Opportunities in Accounting
Financial Financial Managerial Managerial
General accounting General accounting Cost accounting Cost accounting Budgeting Budgeting Internal auditing Internal auditing Consulting Consulting Controller Controller Treasurer Treasurer Strategy Strategy Lenders Lenders Consultants Consultants Analysts Analysts Traders Traders Directors Directors Underwriters Underwriters Planners Planners Appraisers Appraisers

Taxation Taxation
Preparation Preparation Planning Planning Regulatory Regulatory Investigations Investigations Consulting Consulting Enforcement Enforcement Legal services Legal services Estate plans Estate plans FBI investigators FBI investigators Market researchers Market researchers Systems designers Systems designers Merger services Merger services Business valuation Business valuation Human services Human services Litigation support Litigation support Entrepreneurs Entrepreneurs

Preparation Preparation Analysis Analysis Auditing Auditing Regulatory Regulatory Consulting Consulting Planning Planning Criminal Criminal investigation investigation

AccountingAccountingrelated related
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C3

Accounting Jobs by Area

Public accounting 25%

Private accounting 60%

Government, not-for-profit, & education 15%

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C4

EthicsA Key Concept Ethics

Beliefs that distinguish right from wrong Accepted standards of good and bad behavior

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C4

Guidelines for Ethical Decisions

Analyze options Make ethical decision

Identify ethical concerns

Use personal Consider all good ethics to and bad recognize ethical consequences. concern.
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Choose best option after weighing all consequences.

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C5

Generally Accepted Accounting Principles

Financial accounting practice is governed by Financial accounting practice is governed by concepts and rules known as generally accepted concepts and rules known as generally accepted accounting principles (GAAP). accounting principles (GAAP).
Relevant Information Relevant Information Reliable Information Reliable Information Affects the decision of Affects the decision of its users. its users. Is trusted by Is trusted by users. users.

Comparable Comparable Information Information

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Used in comparisons Used in comparisons across years & companies. across years & companies.
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C5

Setting Accounting Principles

Financial Accounting Standards Board is the private group that sets both broad and specific principles. The Securities and Exchange Commission is the The Securities and Exchange Commission is the government group that establishes reporting government group that establishes reporting requirements for companies that issue stock to the requirements for companies that issue stock to the public. public.

The International Accounting Standards Board (IASB) issues international standards that identify preferred accounting practices in other countries. The IASB does not have authority to impose its standards on companies.
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C5

Principles of Accounting

Objectivity Principle Accounting information is supported by independent, unbiased evidence.

Cost Principle Accounting information is based on actual cost.

Now

Future

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C5

Principles of Accounting

Monetary Unit Principle Express transactions and events in monetary, or money, units.

Revenue Recognition Principle 1. Recognize revenue when it is earned. 2. Proceeds need not be in cash. 3. Measure revenue by cash received plus cash value of items received.

Business Entity Principle A business is accounted for separately from other business entities, including its owner.
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C5

Business Entity Forms

Partnership Partnership Corporation Corporation

Sole Sole Proprietorship Proprietorship

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C5

Characteristics of Businesses

Characteristic Proprietorship Partnership Corporation Business entity yes yes yes Legal entity no no yes Limited liability no* no* yes Unlimited life no no yes Business taxed no no yes One owner allowed yes no yes

**Proprietorships and partnerships that are set up as LLCs Proprietorships and partnerships that are set up as LLCs provide limited liability. provide limited liability.

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C5

Corporation

Owners of a corporation are called shareholders (or stockholders). When a corporation issues only one class of stock, we call it common stock (or capital stock).
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A1

Accounting Equation
Assets Assets

Liabilities Liabilities

Equity Equity

Assets

Liabilities & Equity

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A1

Assets
Cash Cash Accounts Accounts Receivable Receivable Notes Notes Receivable Receivable

Vehicles Vehicles

Resources Resources owned or owned or controlled controlled by a by a company company

Land Land

Store Store Supplies Supplies

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Buildings Buildings Equipment Equipment

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A1

Liabilities
Accounts Accounts Payable Payable Notes Notes Payable Payable

Creditors Creditors claims on claims on assets assets

Taxes Taxes Payable Payable
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Wages Wages Payable Payable

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A1

Equity
Contributed Contributed Capital Capital Retained Retained Earnings Earnings

Owners Owners claim on claim on assets assets

Dividends Dividends
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A1

Expanded Accounting Equation

Assets Assets

=
_

Liabilities Liabilities

+
Revenues Revenues

Equity Equity

Common Common Stock Stock

Dividends Dividends

Expenses Expenses

Retained Earnings
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A2

Transaction Analysis Equation

The accounting equation MUST remain in balance after each transaction.

Assets Assets

Liabilities Liabilities

Equity Equity

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A2

Transaction Analysis
J. Scott invests $20,000 cash to start the business in exchange for stock. The accounts involved are: (1) Cash (asset) (2) Common Stock (equity)

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A2

Transaction Analysis

J. Scott invests $20,000 cash to start the business in return for stock.

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A2

Transaction Analysis
Purchased supplies paying $1,000 cash. The accounts involved are: (1) Cash (asset) (2) Supplies (asset)

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A2

Transaction Analysis
Purchased supplies paying $1,000 cash.

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A2

Transaction Analysis
Purchased equipment for $15,000 cash. The accounts involved are: (1) Cash (asset) (2) Equipment (asset)

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A2

Transaction Analysis
Purchased equipment for $15,000 cash.

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A2

Transaction Analysis
Purchased Supplies of $200 and Equipment of $1,000 on account. The accounts involved are: (1) Supplies (asset) (2) Equipment (asset) (3) Accounts Payable (liability)

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A2

Transaction Analysis
Purchased Supplies of $200 and Equipment of $1,000 on account.

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A2

Transaction Analysis

Borrowed $4,000 from 1st American Bank.

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A2

Transaction Analysis
The balances so far appear below. Note that the Balance Sheet Equation is still in balance.

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A2

Transaction Analysis

Now, lets look at transactions involving revenue, expenses and dividends.

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A2

Transaction Analysis

Provided consulting services receiving $3,000 cash. The accounts involved are: (1) Cash (asset) (2) Revenues (equity)

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A2

Transaction Analysis

Provided consulting services receiving $3,000 cash.

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A2

Transaction Analysis
Paid salaries of $800 to employees. The accounts involved are: (1) Cash (asset) (2) Salaries expense (equity)
Remember that the balance in the salaries expense account actually increases. But, equity decreases because expenses reduce equity.

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A2

Transaction Analysis
Paid salaries of $800 to employees.

Remember that expenses decrease equity.

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A2

Transaction Analysis

Dividends of $500 are paid to shareholders. The accounts involved are: (1) Cash (asset) (2) Dividends (equity)
Remember that the Dividend account actually increases. But, equity decreases because dividends reduce equity.
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A2

Transaction Analysis

Dividends of $500 are paid to shareholders.

Remember that dividends decrease equity.

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P1

Financial Statements
Lets prepare the Financial Statements reflecting the transactions we have recorded.
1. Income Statement 2. Statement of Retained Earnings 3. Balance Sheet 4. Statement of Cash Flows

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P1

Income Statement
Net income is the difference between Revenues and Expenses. 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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P1

Statement of Retained Earnings

The net income of $2,200 increases Retained Earnings by $2,200.

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P1

Balance Sheet
The Balance Sheet describes The Balance Sheet describes a companys financial a companys financial position at a point in time. position at a point in time.

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P1

Statement of Cash Flows

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P1

Return on Assets (ROA)

Return on assets Net income = Average total assets

ROA is viewed as an ROA is viewed as an indicator of operating indicator of operating efficiency. efficiency.

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End of Chapter 1

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