Financial Accounting Information for Decisions

John J. Wild 4th Edition
McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2008

Chapter 1
Introducing Accounting in Business

McGraw-Hill/Irwin

© The McGraw-Hill Companies, Inc., 2008

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
McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2008

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

McGraw-Hill/Irwin

© The McGraw-Hill Companies, Inc., 2008

Procedural Chapter Objectives
P1: Identify and prepare basic financial

statements and explain how they interrelate

McGraw-Hill/Irwin

© The McGraw-Hill Companies, Inc., 2008

C1 Importance of Accounting is a Accounting system that Identifies Records information that is Relevant Reliable Comparable McGraw-Hill/Irwin Communicates to help users make better decisions. Inc. 2008 .. © The McGraw-Hill Companies.

.C1 Accounting Activities Identifying Business Activities Recording Business Activities Communicating Business Activities McGraw-Hill/Irwin © The McGraw-Hill Companies. Inc. 2008 .

.C2 Users of Accounting Information External Users Internal Users ‡Lenders ‡Consumer Groups ‡Managers ‡Sales Staff ‡Shareholders ‡External Auditors ‡Governments ‡Customers McGraw-Hill/Irwin ‡Officers/Directors ‡Budget Officers ‡Internal Auditors ‡Controllers © The McGraw-Hill Companies. 2008 . Inc.

2008 .C2 Users of Accounting Information External Users Internal Users Financial accounting provides external users with financial statements. © The McGraw-Hill Companies. McGraw-Hill/Irwin Managerial accounting provides information needs for internal decision makers.. Inc.

C3 Opportunities in Accounting Financial Managerial ‡General accounting ‡Cost accounting ‡Budgeting ‡Internal auditing ‡Consulting ‡Controller ‡Treasurer ‡Strategy ‡Lenders ‡Consultants ‡Analysts ‡Traders ‡Directors ‡Underwriters ‡Planners ‡Appraisers Taxation ‡Preparation ‡Planning ‡Regulatory ‡Investigations ‡Consulting ‡Enforcement ‡Legal services ‡Estate plans ‡FBI investigators ‡Market researchers ‡Systems designers ‡Merger services ‡Business valuation ‡Human services ‡Litigation support ‡Entrepreneurs © The McGraw-Hill Companies.. 2008 ‡Preparation ‡Analysis ‡Auditing ‡Regulatory ‡Consulting ‡Planning ‡Criminal investigation Accountingrelated McGraw-Hill/Irwin . Inc.

Inc.C3 Accounting Jobs by Area Public accounting 25% Private accounting 60% Government. 2008 . not-for-profit.. & education 15% McGraw-Hill/Irwin © The McGraw-Hill Companies.

Inc. 2008 ..C4 Ethics²A Key Concept Ethics Beliefs that distinguish right from wrong Accepted standards of good and bad behavior McGraw-Hill/Irwin © The McGraw-Hill Companies.

McGraw-Hill/Irwin Choose best option after weighing all consequences.C4 Guidelines for Ethical Decisions Identify ethical concerns Analyze options Make ethical decision Use personal Consider all good and bad ethics to recognize ethical consequences. Inc. 2008 . © The McGraw-Hill Companies.. concern.

© The McGraw-Hill Companies. 2008 Comparable Information McGraw-Hill/Irwin . Used in comparisons across years & companies.. Is trusted by users. Inc.C5 Generally Accepted Accounting Principles Financial accounting practice is governed by concepts and rules known as generally accepted accounting principles (GAAP). Relevant Information Reliable Information Affects the decision of its users.

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. McGraw-Hill/Irwin © The McGraw-Hill Companies. The Securities and Exchange Commission is the government group that establishes reporting requirements for companies that issue stock to the public.C5 Setting Accounting Principles Financial Accounting Standards Board is the private group that sets both broad and specific principles. 2008 . Inc.

Cost Principle Accounting information is based on actual cost. 2008 © The . Now Future McGraw-Hill/Irwin Going-Concern Principle Reflects assumption that the business will continue operating instead of being closed or sold..C5 Principles of Accounting Objectivity Principle Accounting information is supported by independent. McGraw-Hill Companies. Inc. unbiased evidence.

units. 2008 . or money. Business Entity Principle A business is accounted for separately from other business entities. Recognize revenue when it is earned. McGraw-Hill/Irwin © The McGraw-Hill Companies. 3. Inc.C5 Principles of Accounting Monetary Unit Principle Express transactions and events in monetary. Proceeds need not be in cash. including its owner. 2.. Revenue Recognition Principle 1. Measure revenue by cash received plus cash value of items received.

Inc. 2008 .C5 Business Entity Forms Sole Proprietorship Partnership Corporation McGraw-Hill/Irwin © The McGraw-Hill Companies..

. McGraw-Hill/Irwin © The McGraw-Hill Companies.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 LLC¶s provide limited liability. 2008 . Inc.

When a corporation issues only one class of stock. McGraw-Hill/Irwin © The McGraw-Hill Companies. Inc..C5 Corporation Owners of a corporation are called shareholders (or stockholders). we call it common stock (or capital stock). 2008 .

Inc.A1 Accounting Equation Assets = Liabilities + Equity Assets Liabilities & Equity McGraw-Hill/Irwin © The McGraw-Hill Companies.. 2008 .

A1 Assets Cash Accounts Receivable Notes Receivable Vehicles Resources owned or controlled by a company Land Store Supplies McGraw-Hill/Irwin Buildings Equipment © The McGraw-Hill Companies. Inc.. 2008 .

. 2008 McGraw-Hill/Irwin .A1 Liabilities Accounts Payable Notes Payable Creditors¶ claims on assets Taxes Payable Wages Payable © The McGraw-Hill Companies. Inc.

A1 Equity Contributed Capital Retained Earnings Owner¶s claim on assets Dividends McGraw-Hill/Irwin © The McGraw-Hill Companies. Inc. 2008 ..

2008 . Inc.A1 Expanded Accounting Equation Assets Assets = _ Liabilities + Equity Common Stock Dividends + Revenues _ Expenses Retained Earnings McGraw-Hill/Irwin © The McGraw-Hill Companies..

Inc. 2008 .A2 Transaction Analysis Equation The accounting equation MUST remain in balance after each transaction.. Assets = Liabilities + Equity McGraw-Hill/Irwin © The McGraw-Hill Companies.

. Inc.A2 Transaction Analysis J. 2008 . Scott invests $20. The accounts involved are: (1) Cash (asset) (2) Common Stock (equity) McGraw-Hill/Irwin © The McGraw-Hill Companies.000 cash to start the business in exchange for stock.

.000 cash to start the business in return for stock. 2008 .000 $ 20.000 McGraw-Hill/Irwin © The McGraw-Hill Companies. Inc.000 $ 20. Assets Cash Supplies Equipment (1) $ 20.000 $ - $ = $ - $ $ 20.A2 Transaction Analysis J.000 = Liabilities Accounts Notes Payable Payable + Equity Common Stock $ 20.000 $ 20. Scott invests $20.

Inc..A2 Transaction Analysis Purchased supplies paying $1.000 cash. 2008 . The accounts involved are: (1) Cash (asset) (2) Supplies (asset) McGraw-Hill/Irwin © The McGraw-Hill Companies.

000 cash. Inc.000 McGraw-Hill/Irwin = $ - $ $ 0.000 © The McGraw-Hill Companies.000) $ 1. Assets = uipment Lia ilities Acc unts N tes Paya le Paya le + uity mm n t c $ 0. 2008 .A2 Transaction Analysis Purchased supplies paying $1.000 $ $ 0.000 ash upplies (1) $ 0..000 $ 1.000 ( ) (1.000 $ 19.000 $ 0.

2008 .A2 Transaction Analysis Purchased equipment for $15. Inc.000 cash.. The accounts involved are: (1) Cash (asset) (2) Equipment (asset) McGraw-Hill/Irwin © The McGraw-Hill Companies.

000 $ 20..000 15.000 cash.000 (3) (15.000) $ 15.000 $ 4.000 Cash Supplies Equipment (1) $ 20. 2008 . Inc.000 = $ - $ $ 20.000) $ 1.000 (2) (1.A2 Transaction Analysis Purchased equipment for $15. Assets = Liabilities Accounts Notes Payable Payable + Equity Common Stock $ 20.000 $ 1.000 $ $ 20.000 McGraw-Hill/Irwin © The McGraw-Hill Companies.

The accounts involved are: (1) Supplies (asset) (2) Equipment (asset) (3) Accounts Payable (liability) McGraw-Hill/Irwin © The McGraw-Hill Companies.A2 Transaction Analysis Purchased Supplies of $200 and Equipment of $1. 2008 . Inc.000 on account..

200 $ 20.000 $ 4..000 (4) 200 1.000 $ 1.000 on account.200 McGraw-Hill/Irwin Liabilities Accounts Notes Payable Payable + Equity Common Stock $ 20.000 (2) (1. 2008 .200 $ $ 21. Assets = Cash Supplies Equipment (1) $ 20.200 $ = $ 21.200 $ 1.000 © The McGraw-Hill Companies.000 (3) (15.000 16. Inc.000) $ 1.000) $ 15.000 $ 1.A2 Transaction Analysis Purchased Supplies of $200 and Equipment of $1.

000 (5) 4.000 from 1st American Bank.000 © The McGraw-Hill Companies.000 4.000) $ 15.000 $ 1.000 (4) 200 1.200 $ = $ 4.200 $ 20. Inc. Assets Cash Supplies Equipment (1) $ 20.000 (2) (1.000 $ 1.000 $ 8. 2008 .200 $ 16.000 25.000 $ 25.000 (3) (15.200 $ $ 1.200 McGraw-Hill/Irwin = Liabilities Accounts Notes Payable Payable + Equity Common Stock $ 20..A2 Transaction Analysis Borrowed $4.000) $ 1.

200 $ $ 25.000 = Liabilities Accounts Notes Payable Payable $ 1.000 $ 8.000 = $ 1.000 $ 1.200 $ 4.000 $ 25.200 $ 16.A2 Transaction Analysis The balances so far appear below.000 + Equity Common Stock $ 20. 2008 . Inc.000 $ 1.200 16.200 McGraw-Hill/Irwin © The McGraw-Hill Companies.200 $ 4. Note that the Balance Sheet Equation is still in balance.000 $ 20. Assets Cash Supplies Equipment Bal.. $ 8.

let¶s look at transactions involving revenue.A2 Transaction Analysis Now. expenses and dividends. 2008 .. McGraw-Hill/Irwin © The McGraw-Hill Companies. Inc.

The accounts involved are: (1) Cash (asset) (2) Revenues (equity) McGraw-Hill/Irwin © The McGraw-Hill Companies. 2008 . Inc..A2 Transaction Analysis Provided consulting services receiving $3.000 cash.

$ 8. Assets Cash Supplies Equipment Bal.000 $ 20.A2 Transaction Analysis Provided consulting services receiving $3.000 $ 11.200 $ 4. Inc.000 cash.000 (6) 3.000 $ 1. 2008 .000 $ 3.200 $ 16.000 $ 1.200 McGraw-Hill/Irwin © The McGraw-Hill Companies.000 = $ 1.000 + Equity Common Stock Revenue $ 20.200 $ 28.200 $ 4..000 = Liabilities Accounts Notes Payable Payable $ 1.000 $ 3.200 $ 16.000 $ 28.

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.. McGraw-Hill/Irwin © The McGraw-Hill Companies. But. Inc. 2008 . equity decreases because expenses reduce equity.

000 = $ 1.000 $ (800) $ 20. 2008 .200 $ 16. $ 8.000 $ 1.000 $ (800) Cash Supplies Equipment Bal.000 $ 3.200 $ 16.. Inc.200 $ 4.200 $ 4.000 $ 3.000 + Equity Common Stock Revenue Expenses $ 20.200 $ 1.400 R em em ber that expenses decrease equity.000 $ 27.000 (6) 3.000 (7) (800) $ 10. Assets = Liabilities Accounts Notes Payable Payable $ 1. McGraw-Hill/Irwin © The McGraw-Hill Companies.400 $ 27.A2 Transaction Analysis Paid salaries of $800 to em ployees.

McGraw-Hill/Irwin © The McGraw-Hill Companies. 2008 .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. equity decreases because dividends reduce equity. But.. Inc.

000 $ 26.000 $ (800) $ 1.900 = = Liabilities Accounts Notes Payable Payable $ 1. Assets Cash Supplies Equipment Bal.000 $ 3. 2008 .200 $ 4.700 $ 1.200 $ 4.. McGraw-Hill/Irwin © The McGraw-Hill Companies.000 $ (500) $ 3.900 R em em ber that dividends decrease equity. $ 8.200 $ 16.000 $ (800) $ (500) $ 20.000 (7) (800) (8) (500) $ 9.000 $ 1.000 $ 26.200 $ 16.000 + Equity Common Dividends Revenue Expenses Stock $ 20. Inc.000 (6) 3.A2 Transaction Analysis D ividends of $500 are paid to shareholders.

Statement of Retained Earnings 3. Statement of Cash Flows McGraw-Hill/Irwin © The McGraw-Hill Companies. Balance Sheet 4. Inc. 2008 ..P1 Financial Statements Let¶s prepare the Financial Statements reflecting the transactions we have recorded. Income Statement 2. 1.

2008 ..P1 Income Statement cott om pa n ncom e ta te m e nt onth Ende d e ce m be r 7 For Re ve nue s onsu tin re ve nue Ex pe nse s a a rie s e x pe nse Ne t incom e Net income is the difference between Revenues and Expenses. McGraw-Hill/Irwin © The McGraw-Hill Companies. The income statement describes a compan ¶s revenues and expenses a on with the resu tin net income or oss over a period of time due to earnin s activities. Inc.

P1 Statement of Retained Earnings or cott om a ny ncom e ta te m e nt onth Ende d e ce m be r .. Inc.000 00 2. . 200 $ 2. 2008 . ec.200 The net income of $2.200 00 . 200 McGraw-Hill/Irwin $ © The McGraw-Hill Companies. 200 s et income ess i idends Retained Earnings.200 increases Retained Earnings by $2. . 200 Re e n e s ons ting re e n e E e nse s a a rie s e e nse e t incom e $ . $ cott om any tatement of Retained Earnings or onth Ended ecember . ec. 00 Retained Earnings.200.

700 $ Cash Supplies Equipment 9. 2007 Retained Earnings.700 $ 26.200 16. Dec..000 5.700 1.900 © The McGraw-Hill Companies. 2007 $ 2. Inc.900 Liabilities Accounts payable Notes payable Total liabilities Equity Common stock Retained earnings Total liabilities and equity $ 1.200 500 1.000 1.200 20. 1.000 Total assets McGraw-Hill/Irwin $ 26. 2008 . 31. Scott Company Balance Sheet December 31. Dec.200 4.P1 Balance Sheet The Balance Sheet describes a company¶s financial position at a point in time. 2007 Plus: Net income Less: Dividends Retained Earnings. 2007 Assets $ Scott Company Statement of Retained Earnings For Month Ended December 31.

Dece e 31.000) e cas se ves ac v es (15.000) s a c ac v es: Cas I ves e S a e e s 20.000 Dv e s a (500) e cas v e a c ac v es 23.500 e c ease cas $ 9.P1 Statement of Cash Flows F Sc Compa Sae e Cas F s M E e Dece e 31. 2007 $ 9.700 © The McGraw-Hill Companies.200 Cas s ves ac v es: c ase eq e (15..700 Cas a a ce. 2007 McGraw-Hill/Irwin Cas s e a ac v es: Cas ece ve c e s $ 3.000) Cas a e ees (800) e cas v e e a ac v es $ 1. Dece e 1.000 c ase s es (1. 2007 Cas a a ce. 2008 . Inc.000 e a a k 4.

Inc. McGraw-Hill/Irwin © The McGraw-Hill Companies..P1 Return on Assets (ROA) Return on assets Net income Average total assets ROA is viewed as an indicator of operating efficiency. 2008 .

End of Chapter 1 McGraw-Hill/Irwin © The McGraw-Hill Companies. Inc. 2008 ..

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