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COMM 2010 Lecture Notes Chapters 1-4 Chapter 1  Why do we need accounting?

o Firms prepare financial statements to present in a meaningful way the results of a firm's business activities to external users o Items included in the annual report:  Letter from chairperson of the BOD and CEO  Management discussion and analysis (MD&A)  Financial statements and notes Principal business activities o Establishing goals and strategies o Obtaining financing o Making investments o Conducting operations 

Financial Statements o Balance sheet or statement of financial position o Income statement or statement of profit and loss o Statement of cash flows o Statement of shareholders’ equity o Notes to the financial statements o Key Players  Managers   Board of Directors Auditors

COMM 2010 – Intro to Financial Accounting Ann Backof

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Example Balance Sheet Accounts

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o Prepare Isabel’s balance sheet as of January 31.000 for a one-year lease of a building and $15. agreeing to pay the seller within 30 days. and noncurrent liability of $200. On January 1. 2012. The bank loan is due in full on January 1.000 from a bank. The company issued 1. Rent is due on the 1st of each month.000 for equipment. 2012.000 shares of common stock for $48.000.000 at the conclusion of 2012. Practice Problem #1 o Lonski Company reports current assets of $500. with interest at 10 percent per year. COMM 2010 – Intro to Financial Accounting Ann Backof 3 of 28 . the company paid $12. 2015.000 and the company borrowed $36. The company purchased $8. o Compute the amount of shareholders’ equity on the balance sheet at the end of 2012.000. noncurrent assets of $400. current liabilities of $200.000 of inventory on account on January 2.000.  Practice Problem #2 o The Isabel Company began operations on January 1.

 Example Income Statement Accounts COMM 2010 – Intro to Financial Accounting Ann Backof 4 of 28 .

 Practice Problem #3 o SkyHigh Airlines reported sales for the year ended December 31. o Compute the amount of dividends declared and paid to shareholders during 2012 COMM 2010 – Intro to Financial Accounting Ann Backof 5 of 28 .700.000 on the sale of an airplane.000.000. 2012 of $2. o Compute SkyHigh net income for the year ended December 31.200. 2012  Practice Problem #4 o Backof Company earned $190.000. 2012. costs of sales of 900. At December 31. other operating expenses of $1.000. interest expense of $56. 2012 o Prepare SkyHigh’s income statement for the year ended December 31.000 and income taxes of $45.000. the balance in retained earnings was $560.000 during 2012 and the beginning retained earnings balance was $400. a gain of $100.000.

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Disclosure COMM 2010 – Intro to Financial Accounting Ann Backof 7 of 28 .   Financial Reporting Process o Who sets acceptable accounting standards? Objective of financial reporting o Provide useful information to current and potential stakeholders Qualitative characteristics of accounting information o Relevant o Reliable o Comparable  Recognition vs.

payable next month to the supplier. of which $260. Which method of accounting better measures Sinclair’s operating performance? COMM 2010 – Intro to Financial Accounting Ann Backof 8 of 28 . Sinclair Inc. but DSW did not pay for that order until April 5th. The sold merchandise had cost Sinclair $120. respectively.000 and $13. In September.000. Finally. When can Nike recognize the revenue? When is the revenue realized? o Materiality  Quantitative or Qualitative o Two methods of accounting  Cash basis of accounting  Accrual basis of accounting   Example: In September. Realization  Example: Nike shipped an order totaling $30.000.000 to DSW on May 23rd. made sales of $310. Sinclair acquired merchandise inventory of $78. Sinclair incurred salary and rent costs for September of $24. DSW received the order on May 28th.000 when it purchased it last month.000 were on credit and the rest in cash.000. these were paid in cash. Key Accounting Concepts o Recognition vs. Assume that the sale is considered complete when Nike ships the goods. Calculate net cash flow and net income for September.

Chapter 2  Basic terminology Transactions → Accounts → Financial statements  The Accounting Cycle o Analyze Transactions o Record Transactions o Determine and Record Adjusting Entries o Prepare Income Statement o Close Temporary Income Statement Accounts o Prepare Balance Sheet Account for Transactions o Analyze the transaction and understand the economics  What did the firm receive and what did they give? o Record the transaction  Apply GAAP to the transaction  What accounts are affected? o Create journal entry  Post each part of the journal entry to the relevant account  Update t-accounts  Think of each account as a separate page in the General Ledger Accounting Equation Assets = Claim to assets Assets = Liabilities + Shareholders’ Equity   COMM 2010 – Intro to Financial Accounting Ann Backof 9 of 28 .

 T-accounts o Reflect the effects of transactions on an individual account o Capture all transactions that make up ending balance o Assets = Liabilities + Shareholders’ Equity  Balance Sheet COMM 2010 – Intro to Financial Accounting Ann Backof 10 of 28 .

000 to an advertising agency for a promotional campaign that will start in one month.) Credit (Cr. 2.000 for a magazine subscription to be delivered to customers over the next year. Received $12.)  Practice Analyzing and Recording Transactions 1. 4. Bought $115. 5. COMM 2010 – Intro to Financial Accounting Ann Backof 11 of 28 .000 cash a building the firm will use for office space. Purchased for $500.000 of merchandise inventory on account. Paid $15. Journal entries o Capture all of the accounts and amounts affected by a transaction o Easier to find error in booking a transaction using journal entry than T-account o Transfer amounts from journal entry to individual T-accounts Debit (Dr. Paid $7.000 in advance for one year of insurance. 3.

9. The company agrees to buy four trucks six months from now for $178.6. Paid $65. Bought $42.000 to the supplier for inventory purchase in (5) and gave a note for the remaining $50.000 from the bank. Loaned $30.000. 8.000. 10.000 to an officer and accepted a 90-day note as evidence of the loan. COMM 2010 – Intro to Financial Accounting Ann Backof 12 of 28 .000. Issued ten shares of $100 par value common stock in settlement of an account payable of $26. 11. Borrowed $75.000 of merchandise for cash. 7.

(3) the price is fixed or determinable. (2) there is pervasive evidence of an arrangement for payment. regardless of when the cash is actually received. o When do you recognize expenses?  How is the BS linked to the IS?  Income Statement COMM 2010 – Intro to Financial Accounting Ann Backof 13 of 28 . Income Statement o When do you recognize revenues? (1) delivery has occurred or services have been rendered. and (4) collection is reasonably assured.

. Sold goods in the amount of $9. Assume the company paid cash and the depreciation expense is $1. a customer pays $500 cash in advance for goods not yet received. 2.. On December 31.g. accrued salaries). Relation between BS and IS o When a ABC Company earns revenues.300.g. ABC Company ships part of order valued at $200.000 that has a useful life of 10 years. The cost of these sales was $6.000 each year.500 to customer A on credit.  Practice Analyzing and Recording Transactions 1. cash. o Depreciation: ABC Company purchased a piece of equipment 2 years ago costing $10. inventory) or increase liabilities (e. COMM 2010 – Intro to Financial Accounting Ann Backof 14 of 28 . it receives some form of net assets (e. o To recognize the assumption of assets associated with the revenue.g.. ABC Company would reduce assets (e.  Adjusting Entries o Unearned Revenue: On December 1. accounts receivable).

o Accrued Expenses: ABC Company has 40 salaried employees that earn a total of $160.o Prepaid Expense: On November 20. However.000. ABC Company did not bill the customer until January 2. ABC Company pays its rent for December 1 of this year through November 30 of next year. However. these employees are not paid until the 2nd of the following month   Prepare Income Statement o Derive the balance of each account using T-account algebra Close Temporary Income Statement Accounts o Revenue XX  Expense XX  Retained Earnings XX Prepare Balance Sheet o Derive the balance of each account using T-account algebra  COMM 2010 – Intro to Financial Accounting Ann Backof 15 of 28 . o Accrued Revenue: On December 15. The monthly rent expense is $3.000 per month. ABC Company serviced a machine for a customer.

 Let’s put it all together… o ABC reported a balance in inventory of $21 million at the beginning of 2012 and $22 million at the end of 2012. During 2012. How much inventory did ABC purchase during 2012? o ABC reported a balance in retained earnings of $56 million at the beginning of 2012 and $61 million at the end of 2012.5 million for 2012. COMM 2010 – Intro to Financial Accounting Ann Backof 16 of 28 . Compute the amount of net income for 2012. Based on ABC’s financial reports. it declared and paid dividends of $2. ABC reported $114 million in cost of goods sold. Assume that all of ABC’s inventory purchases are made on account.

Chapter 3 Understanding the Balance Sheet  Nike (US GAAP)  BP (IFRS) COMM 2010 – Intro to Financial Accounting Ann Backof 17 of 28 .

000 in research to develop a new strain of cattle feed that can be produced from cottonseed. What resources does a firm recognize as assets? o Asset o Criteria for recognition:  Company owns or controls use of the item  Right to use item comes from a past transaction or exchange  Future benefit has a relevant measurement attribute that can be quantified with sufficient reliability  Alternative Ways to Measure Assets o Acquisition (historical) cost o Current replacement cost o Net realizable value o Fair value  Measurement difference between US GAAP and IFRS o US GAAP o IFRS  Asset or not? o Rainbolt Ranchers agrees to purchase feedstock in the amount of $156. COMM 2010 – Intro to Financial Accounting Ann Backof 18 of 28 .000 from a local supplier o Rainbolt Ranchers invests $245.

o Rainbolt Ranchers exchanges common shares for a patent on a new weighing machine for cattle.000 to purchase a new tractor.000 in advance for the right to graze his cattle on his neighbor’s fields for the next three months.o Rainbolt Ranchers pays $120. o Rainbolt Ranchers pays the ranch next door $36. The value of the common shares exchanged is $60.000.  What obligations does a firm recognize as liabilities? o Liability o Criteria for recognition:  Item represents a present obligation  Obligation exists as a result of a past transaction  Obligation cannot be legally avoided  Obligation has a relevant measurement attribute that can be quantified with sufficient reliability  Alternative Ways to Measure Liabilities COMM 2010 – Intro to Financial Accounting Ann Backof 19 of 28 .

COMM 2010 – Intro to Financial Accounting Ann Backof 20 of 28 . o The rancher above pays Rainbolt Ranchers $200. o Rainbolt Ranchers borrows $150. The terms of the loan call for the loan to be paid in equal installments over the next three years. Liability or not? o Rainbolt Ranchers agrees to sell 100 head of cattle for $500. o Rainbolt Ranchers sells 10.000 within 60 days. The calves are currently two months of age.000 from the local bank to purchase additional feed. Rainbolt Ranchers agrees to pay the vendor of this equipment $260.000 to another rancher when the cattle reach the age of 12 months. has a different meaning.000 shares of its common stock for $6 per share.000 in advance on the agreement. or both. o In exchange for an automatic salt dispenser. uncertain timing.  Contingencies o Probable  A recognition criterion for liabilities with uncertain amount.

requesting damages of $3 million. o A competitor files a patent infringement lawsuit.  Shareholders’ Equity o Amounts company received from owners when it originally issued shares o Amounts generated by operations that have not been distributed to owners COMM 2010 – Intro to Financial Accounting Ann Backof 21 of 28 . for the Rainbolt’s invention of a new feedstock. Liability or not? o Rainbolt Ranchers agrees to provide veterinary services for two years after a calf is purchased.

 Balance Sheet Analysis o Common-size balance sheet o Ratio Analysis  How valuable is the company?  Market-to-book-value ratio  How does a company finance its operations?  Debt ratio  Debt-to-equity ratio COMM 2010 – Intro to Financial Accounting Ann Backof 22 of 28 .

Chapter 4 Understanding the Income Statement  Nike (US GAAP)  BP (IFRS) COMM 2010 – Intro to Financial Accounting Ann Backof 23 of 28 .

o A customer sent Crazy Critters a check for $1. a customer paid cash for a $200 gift card from Crazy Critters that expires in 2 years. Typical Format for Income Statement Revenue Cost of goods sold Gross profit Selling. o Over the holidays.000 reflecting a down payment on a deluxe chicken coup that Crazy Critters plans to deliver next month. COMM 2010 – Intro to Financial Accounting Ann Backof 24 of 28 . and administrative expenses Other operating expenses Operating profit Interest expense Gains/losses (sale of assets) Profit before income taxes Income tax expense Discontinued operations (net of income tax) Net Income Revenues (Sales) o Revenue recognition criteria  Completion of the earnings process and  Receipt of assets from customers   Revenue or not? o Crazy Critters build and delivered a custom doghouse for $500 to a customer on credit. general. o The individual holding the gift card purchased and received a custom dog bed for her very large dog. The bed cost $225 and the customer paid the difference in cash.

Gift cards o Sales discounts  Macho Machines offers a 2% discount off of the selling price for all credit customers who pay within 10 days after the delivery of the machine. January through December.000 collected in February. which the company will perform the second Saturday in each month for 10 months beginning in January.000 as its portion of the gate receipts for the playoffs held in the previous December. Co. Also. and the remainder in March.  Bonilla. software upgrades. of which $270. an owner of office buildings.  A theatrical company sells $600. customers return about 1% of the machines purchased from Macho Machines.  Timing and Amount of Revenue o How much revenue is recognized in January?  In January. $100.000 of season tickets to its plays.000.000 was collected in January. a company sold its product for a sales price totaling $450. the company sells $80. a pro football team. Problem Areas o Bundled sales  Macho Machines sells a machine to a customer for $5.000 of tickets for January's play.  The Laker Gators. receives $6.000 in January for office rental fees for the 12month period. COMM 2010 – Intro to Financial Accounting Ann Backof 25 of 28 . and a 3-year warranty. collected $1.000 which includes installation..000.800. o Sales returns  Historically.

COMM 2010 – Intro to Financial Accounting Ann Backof 26 of 28 . $250.000 on credit. A portion. The remaining portion of September's purchases was maintained for future orders. Expenses o Expense recognition criteria  Consumption of assets as part of a transaction that leads to the recognition of revenue or  Consumption of assets due to the passage of time  Expense or not? o Crazy Critters purchased wood to build future doghouses for $1.000 to be delivered in October. promising to pay the supplier next month. Customers placed orders and received goods with a cost to the wholesale company of $450.  Timing of Expenses o How much expense is recognized in September?  During September. The annual lease payment of $270. a wholesale company purchased $1. o Crazy Critters used $380 worth of wood to build a custom doghouse that it sold for $500.  An accounting firm leases its office space. o Crazy Critters spent $5.000 on advertisements in local newspapers around the region throughout the month. was the cost of goods ordered by their customers in August to be delivered in September.200.000 in September.000 of inventory for resale. In September. customers ordered goods with a cost of $225.000 was paid on July 1.000.

500. $367.000. A pro football team incurred in September a cost of $354.500.000 for an advertising campaign that will produce full-page ads in local papers. as follows: two in September. $420. August.000 for July. and September sales. September. In September. three in October. two in November. The company pays the commission at the end of each threemonth period. August. and one in December. Sales related to commissions for the 3-month period were as follows: July.  A cosmetics company bases its sales commissions on a percentage of each sales dollar the sales staff generates.  Accumulated Other Comprehensive Income o Changes in net assets NOT captured net income o Typically arise from remeasurements of assets and liabilities  Income Statement Analysis o Common-size income statement o Ratio Analysis  How profitable is the company?  Gross profit margin  Net profit margin COMM 2010 – Intro to Financial Accounting Ann Backof 27 of 28 . $262. the company paid commissions of $105.

 How efficient is the company?  Total Asset Turnover  Return on Assets COMM 2010 – Intro to Financial Accounting Ann Backof 28 of 28 .