Transcript Chapter 1 The Link Between Business and Accounting 1

Chapter 1
The Link Between Business and
Accounting
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Accounting?
The process of identifying, measuring,
and communicating financial business
information to various users.
 ‘Language of business’
 Why important to business?
 Transaction - business activity that
results in an economic exchange
between a business entity and a person
or firm outside the entity.
 Cooking the books
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Types of Businesses
Businesses do?
 For-profit - creates or adds value to earn money
for its owners.
 Not-for profit - provides goods or services for
the sole purpose of helping people instead of
making a profit
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Accounting Information
 Financial - outside, managerial - inside
 Inventory, revenues, expenses, profit
 Types of businesses
 Service firms - provide services
 Merchandising - provide products
 Manufacturing - make the products they provide to their
customers
 Forms of business ownerships
 Sole proprietorship - owned by an individual
 Partnership - owned by two or more individuals
 Corporation - legal entity that may have many any
number of owners
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Decisions
•Operating cycle - the sequence of business
activities starting with cash, using cash to
purchase inputs, changing those inputs into
products and services, and providing product to
customers, eventually getting cash back.
•‘Cash to cash’
•Accounting period
•Fiscal year, calendar year
•Internal users, external users
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Rules
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GAAP - generally accepted accounting principles - a
broad set of accounting rules that a company must
follow when preparing its financial statements.
SEC - securities and exchange commission - has
the authority to monitor activities and financial
reporting of corporations that sells shares of
ownership on the stock exchanges.
FASB - financial accounting standards board group of professional business people, accountants,
and accounting scholars in the private sector who
have the responsibility of setting current accounting
standards.
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Basic financial statements
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Balance sheet - describes the financial
position of a company at a specific point in
time.
Monetary unit assumption - expressed in
monetary units.
Notes to the financial statements.
Accounting equation - assets = liabilities +
owner’s equity
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Assets - economic resources owned
Liabilities - owes to creditors
Owner’s equity - claims of owners to assets
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Basic financial statements
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Income statement - shows revenues and
expenses for a specific accounting period.
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Net income - difference between revenues
and exenses
Statement of changes in owner’s equity
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Dividends, withdrawals
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Basic financial statements
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Statement of cash flows
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Summary of all cash that has come into and gone
out
Three sections:
Operating - day-to-day, general running of business
 Investing - purchase and sales of assets that last longer
than one year
 Financing - long-term creditors or owners
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Notes to financial statements
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Beginning assets are $120,000 and
stockholder’s equity is $30,000. Liabilities
increased $15,000 during the year, and
the ending assets are $145,000. What
was the ending stockholder’s equity?
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Financial statement equations
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Income statement - revenues - expenses = net
income
Statement of retained earnings - bb retained
earnings + net income - dividends = eb retained
earnings
Balance sheet - assets = liabilities +
stockholder’s equity
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Beginning of year
assets =
120,000 =
liabilities +
30,000
owner’s equity
90,000
145,000
45,000
100,000
End of year
Assume that revenue is $40,000, dividends are $5,000 and
common stock is issued for $22,000. How much are the
expenses? Was there a net income or net loss?
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Beginning stockholder’s equity
+ revenue
- - expenses
- + issuance of common stock
- - dividends
- Ending stockholder’s equity
- Expenses = $47,000
- Net loss = $7,000
90,000
40,000
?
22,000
(5,000)
100,000
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Reporting to SEC
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10-K - audited financial statements
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Financial statement analysis
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Ratio analysis - using ratios to analyze a
firm’s past performance and forecast its
future performance
Ratio - mathematical relationship - quantities
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Profitability
Liquidity - ability to pay its current bills
Solvency - ability to pay its long-term obligations
Market - relate the market price of stock to what
is received as dividends
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Risks
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Lack of management systems
Lack of vision and purpose by the principals
Lack of financial planning and review
Ethics - financial reporting
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Sarbanes-Oxley Act of 2002 - a law passed by Congress
that sets new rules for the ways corporations govern
themselves, including rules to make a corporation’s internal
controls more effective and procedures for increasing the
understandability of financial reporting.
Audit - an examination of a company’s financial
statement by certified public accountants to provide
evidence that the financial position of the company is
fairly stated.
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