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The Accounting Information

System

Kimmel ● Weygandt
Survey of Accounting, First Edition
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 CHAPTER OUTLINE
LEARNING OBJECTIVES

1 Discuss financial reporting concepts.

Analyze the effect of business transactions on the

2 basic accounting equation.

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Discuss financial reporting

LEARNING
OBJECTIVE 1 concepts.

THE STANDARD-SETTING ENVIRONMENT

Generally Accepted Accounting Principles (GAAP) - A set of
rules and practices, having substantial authoritative support, that
the accounting profession recognizes as a general guide for
financial reporting purposes.
Standard-setting bodies determine these guidelines:
International Note
► Securities and Exchange Commission (SEC) Over 115 countries
use international
► Financial Accounting Standards Board (FASB) standards (called
IFRS).
► International Accounting Standards Board (IASB)
► Public Company Accounting Oversight Board (PCAOB)

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 THE STANDARD-SETTING ENVIRONMENT

Review Question
Generally accepted accounting principles are:

a. a set of standards and rules that are recognized as

a general guide for financial reporting.

b. usually established by the Internal Revenue

Service.

c. the guidelines used to resolve ethical dilemmas.

d. fundamental truths that can be derived from the

laws of nature.

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QUALITIES OF USEFUL INFORMATION

According to the FASB, useful information should possess

two fundamental qualities, relevance and faithful
representation.
 Relevance Accounting information has relevance if it would
make a difference in a business decision. Information is
considered relevant if it provides information that has
predictive value, that is, helps provide accurate expectations
about the future, and has confirmatory value, that is, confirms
or corrects prior expectations. Materiality is a company-
specific aspect of relevance. An item is material when its size
makes it likely to influence the decision of an investor or
creditor.
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 QUALITIES OF USEFUL INFORMATION

According to the FASB, useful information should possess

two fundamental qualities, relevance and faithful
representation.
 Faithful Representation Faithful representation means that
information accurately depicts what really happened. To provide
a faithful representation, information must be complete
(nothing important has been omitted), neutral (is not biased
toward one position or another), and free from error.

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QUALITIES OF USEFUL INFORMATION

Enhancing Qualities
Comparability Information is Information has the
results when verifiable if quality of
different companies independent understandability
use the same observers, using the if it is presented in a
accounting same methods, obtain clear and concise
principles. similar results. fashion.

Consistency means
that a company uses For accounting information to
the same accounting have relevance, it must be
principles and methods timely.
from year to year.

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 ASSUMPTIONS IN FINANCIAL REPORTING

Monetary Unit Economic Entity

Requires that only those States that every economic
things that can be expressed entity can be separately
in money are included in the identified and accounted for.
accounting records.
ILLUSTRATION 3-2
Key assumptions in financial reporting
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ASSUMPTIONS IN FINANCIAL REPORTING

Periodicity Going Concern

States that the life of a The business will remain
business can be divided in operation for the
into artificial time periods. foreseeable future.
ILLUSTRATION 3-2
Key assumptions in financial reporting
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 PRINCIPLES IN FINANCIAL REPORTING

Measurement Principles
Historical Cost
Or cost principle, dictates that companies record assets at their cost.

Fair Value
Indicates that assets and liabilities should be reported at fair value
(the price received to sell an asset or settle a liability).

Full Disclosure Principle

Requires that companies disclose all circumstances and events that
would make a difference to financial statement users.

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PRINCIPLES IN FINANCIAL REPORTING

COST CONSTRAINT
Accounting standard-setters
weigh the cost that companies
will incur to provide the
information against the benefit
that financial statement users
will gain from having the
information available.

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 Financial Accounting Concepts and
DO IT! 1 Principles
The following items guide the FASB when it creates accounting standards.
Relevance Periodicity assumption
Faithful representation Going concern assumption
Comparability Historical cost principle
Consistency Full disclosure principle
Monetary unit assumption Materiality
Economic entity assumption
Match each item above with a description below.
1. Ability to easily evaluate one company’s results Comparability
relative to another’s.
2. Belief that a company will continue to operate for the
Going concern
foreseeable future.
3. The judgment concerning whether an item is large
Materiality
enough to matter to decision-makers.
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Financial Accounting Concepts and

DO IT! 1 Principles
The following items guide the FASB when it creates accounting standards.
Relevance Periodicity assumption
Faithful representation Going concern assumption
Comparability Historical cost principle
Consistency Full disclosure principle
Monetary unit assumption Materiality
Economic entity assumption
Match each item above with a description below.
4. The reporting of all information that would make a Full disclosure
difference to financial statement users.
5. The practice of preparing financial statements at
Periodicity
regular intervals.
6. The quality of information that indicates the
Relevance
information makes a difference in a decision.
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 Financial Accounting Concepts and
DO IT! 1 Principles
The following items guide the FASB when it creates accounting standards.
Relevance Periodicity assumption
Faithful representation Going concern assumption
Comparability Historical cost principle
Consistency Full disclosure principle
Monetary unit assumption Materiality
Economic entity assumption
Match each item above with a description below.
7. Belief that items should be reported on the balance Historical cost
sheet at the price that was paid to acquire the item.
8. A company’s use of the same accounting principles
Consistency
and methods from year to year.
9. Tracing accounting events to particular companies. Economic entity

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Financial Accounting Concepts and

DO IT! 1 Principles
The following items guide the FASB when it creates accounting standards.
Relevance Periodicity assumption
Faithful representation Going concern assumption
Comparability Historical cost principle
Consistency Full disclosure principle
Monetary unit assumption Materiality
Economic entity assumption
Match each item above with a description below.
10. The desire to minimize errors and bias in financial Faithful
statements. representation
11. Reporting only those things that can be measured in Monetary unit
dollars.

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 THE STANDARD-SETTING ENVIRONMENT

Review Question
What is the primary criterion by which accounting information
can be judged?

a. Consistency.

b. Predictive value.

c. Usefulness for decision making.

d. Comparability.

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Analyze the effect of business transactions

LEARNING
OBJECTIVE 2 on the basic accounting equation.

Accounting Information System

System of
► collecting and

► processing transaction data and

► communicating financial information to decision-makers.

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 ACCOUNTING TRANSACTIONS

Transactions are economic events that require recording

in the financial statements.
 Not all activities represent transactions.

 Assets, liabilities, or stockholders’ equity items change

as a result of some economic events.

 Dual effect on the accounting equation.

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ACCOUNTING TRANSACTIONS

Question: Are the following events recorded Illustration 3-3

Transaction
in the accounting records? identification process

Discuss guided trip

Purchase
Event options with potential Pay rent
computer
customer

Criterion Is the financial position (assets, liabilities, or

stockholders’ equity) of the company changed?

Record/
Don’t Record

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 ANALYZING TRANSACTIONS

The process of identifying the specific effects of

economic events on the accounting equation.

Basic Accounting Equation

Stockholders’
Assets = Liabilities +
Equity

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ANALYZING TRANSACTIONS

Illustration 3-4
Expanded accounting equation

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 ANALYZING TRANSACTIONS
Event (1). On October 1, cash of $10,000 is invested in Sierra Corporation
by investors in exchange for $10,000 of common stock.

1. +10,000 +10,000

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ANALYZING TRANSACTIONS
Event (2). On October 1, Sierra borrowed $5,000 from Castle Bank by
signing a 3-month, 12%, $5,000 note payable.

1. +10,000 +10,000
2. +5,000 +5,000

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 ANALYZING TRANSACTIONS
Event (3). On October 2, Sierra purchased equipment by paying $5,000
cash to Superior Equipment Sales Co.

1. +10,000 +10,000
2. +5,000 +5,000
3. -5,000 +5,000

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ANALYZING TRANSACTIONS
Event (4). On October 2, Sierra received a $1,200 cash advance from R.
Knox, a client.

1. +10,000 +10,000
2. +5,000 +5,000
3. -5,000 +5,000
4. +1,200 +1,200

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 ANALYZING TRANSACTIONS
Event (5). On October 3, Sierra received $10,000 in cash from Copa
Company for guide services performed.

1. +10,000 +10,000
2. +5,000 +5,000
3. -5,000 +5,000
4. +1,200 +1,200
5. +10,000 +10,000

Service
Revenue

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ANALYZING TRANSACTIONS
Event (6). On October 3, Sierra Corporation paid its office rent for the
month of October in cash, $900.

1. +10,000 +10,000
2. +5,000 +5,000
3. -5,000 +5,000
4. +1,200 +1,200
5. +10,000 +10,000
6. -900 -900
Rent
Expense

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 ANALYZING TRANSACTIONS
Event (7). On October 4, Sierra paid $600 for a one-year insurance policy
that will expire next year on September 30.

1. +10,000 +10,000
2. +5,000 +5,000
3. -5,000 +5,000
4. +1,200 +1,200
5. +10,000 +10,000
6. -900 -900
7. -600 +600

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ANALYZING TRANSACTIONS
Event (8). On October 5, Sierra purchased an estimated three months of
supplies on account from Aero Supply for $2,500.

1. +10,000 +10,000
2. +5,000 +5,000
3. -5,000 +5,000
4. +1,200 +1,200
5. +10,000 +10,000
6. -900 -900
7. -600 +600
8. +2,500 +2,500

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 ANALYZING TRANSACTIONS
Event (9). On October 9, Sierra hired four new employees to begin work
on October 15.

1. +10,000 +10,000
2. +5,000 +5,000
3. -5,000 +5,000
4. +1,200 +1,200
5. +10,000 +10,000
6. -900 -900
7. -600 +600
8. +2,500 +2,500

An accounting transaction has not occurred.

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ANALYZING TRANSACTIONS
Event (10). On October 20, Sierra paid a $500 dividend.

1. +10,000 +10,000
2. +5,000 +5,000
3. -5,000 +5,000
4. +1,200 +1,200
5. +10,000 +10,000
6. -900 -900
7. -600 +600
8. +2,500 +2,500
10. -500 -500

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 ANALYZING TRANSACTIONS
Event (11). Employees have worked two weeks, earning $4,000 in
salaries, which were paid on October 26.

1. +10,000 +10,000
2. +5,000 +5,000
3. -5,000 +5,000
4. +1,200 +1,200
5. +10,000 +10,000
6. -900 -900
7. -600 +600
8. +2,500 +2,500
10. -500 -500
11. -4,000 Sal./Wages Expense -4,000

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DO IT! 2 Transaction Analysis

A tabular analysis of the transactions for the month of August is

shown below. Describe each transaction.

1. Company issued shares of stock for $25,000 cash.

2. Company purchased $7,000 of equipment on account.
3. Company received $8,000 cash in exchange for services performed.
4. Company paid $850 for this month’s rent.
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 COPYRIGHT

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