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Understanding Accounting and Financial Information
Copyright © 2010 by the McGraw-Hill Companies, Inc. All rights reserved.
* What is
• Accounting -- Recording, classifying, summarizing
and interpreting of financial events and transactions in an organization to provide interested parties needed financial information.
• Outside parties - like employees, owners, creditors, unions, investors and the government make use of a firm’s accounting information.
The ACCOUNTING SYSTEM
* What is
FINANCIAL 3. AUDITING 4.AREAS OF ACCTG • • • • • 1. TAX 5. GOVT/NON PROFIT . MANAGERIAL 2.
Costs of production .Preparation and control of budgets .MANAGERIAL ACCOUNTING * Managerial Accounting LG2 * • Managerial Accounting -. • Managerial accounting is involved with: .Minimizing tax liabilities 17-5 .Costs of marketing .Provides information and analysis to managers inside the organization to assist them in decision making.
How much debt does it owe? • Annual Report -. progress.Is it able to pay its bills? .A yearly statement of the financial condition.FINANCIAL ACCOUNTING * Financial Accounting LG2 * • Financial Accounting -. and expectations of the firm. 17-6 .Financial information and analyses are generated for people primarily outside the organization. Outside users are interested in these questions: .Is the organization profitable? .
Statement of cash flows .Balance sheet .HOW to READ an ANNUAL REPORT • Key things to watch for and read: .Auditor’s opinion 17-7 .Management’s discussion and analysis of operations * Financial Accounting LG2 * .Income statement .
PUBLIC vs. • Public Accountants -.Provide accounting services to individuals or businesses. • Certified Public Accountants (CPAs) -Accountants who have passed a series of examinations established by the American Institute of Certified Public Accountants (AICPA) and met a states requirements for education and experience. or nonprofit organization. government agency.Work in a single firm. 17-8 . PRIVATE ACCOUNTANTS * Financial Accounting LG2 * • Private Accountants -.
STEPS to CONTROL ACCOUNTING PRACTICES * Financial Accounting LG2 * 17-9 .
Accountants who have a bachelor’s degree and two years of experience in internal auditing and pass an exam administered by the Institute of Internal Auditors.Reviewing and evaluating the * Auditing LG2 * information used to prepare a company’s financial statements.AUDITING CHECKS ACCURACY • Auditing -.An evaluation and unbiased opinion about the accuracy of a company’s financial statements. • Certified Internal Auditors (CIAs) -. • Independent Audit -. 17-10 .
but serving others according to a duly approved budget.SPECIALIZED ACCOUNTANTS • Tax Accountants -.Support for organizations whose purpose is not generating a profit. * Tax Accounting LG2 * • Government and Not-forProfit Accounting -. 17-11 .Accountants trained in tax law and are responsible for preparing tax returns or developing tax strategies.
A six-step procedure that results in the preparation and analysis of the major financial statements. 17-12 .The ACCOUNTING CYCLE * The Accounting Cycle LG3 * • Accounting Cycle -.
Bookkeepers divide a firm’s transactions into meaningful categories and post them into a record book or computer program called a journal.BOOKKEEPING’S ROLE • Bookkeeping -.Bookkeepers record all transactions in two places so they can check one list of transactions against the other for accuracy. 17-13 .The recording of business * The Accounting Cycle LG3 * transactions. • Double-Entry Bookkeeping -.
A summary of all the information in the account ledgers.BOOKKEEPING’S ROLE • Ledger -. 17-14 . * The Accounting Cycle LG3 * • Trial Balance -.A specialized accounting book or program where all information is in one place.
• Key financial statements of business are: .Balance sheet .Income statement .A summary of all the financial transactions that have occurred over a particular period.* FINANCIAL STATEMENTS Understanding Key Financial Statements LG3 * • Financial Statement -.Statement of cash flows 17-15 .
2010) • Broken down into assets.BALANCE SHEET • Shows what you own and who you owe • Is a particular date in time (ex. March 31. and equity . liabilities.
The basis for the balance sheet.The FUNDAMENTAL ACCOUNTING EQUATION * The Fundamental Accounting Equation LG4 * • Fundamental Accounting Equation -. • The equation must always be balanced and includes the formula: o Assets = Liabilities + Owners Equity 17-17 .
Ease with which assets can be converted into cash. 17-18 .Economic resources owned by a firm. Items can be tangible or intangible. • Liquidity -.ASSETS *Classifying Assets LG4 * • Assets -.
• Intangible Assets -. trademarks.Long-term assets that have no physical form but do have value such as patents. • Fixed Assets -. 17-19 . and goodwill.Long-term assets that are relatively permanent such as land. buildings.Items that can or will be converted to cash within one year. or equipment.CLASSIFYING ASSETS *Classifying Assets LG4 * • Current Assets -.
Long-term liabilities that the firm must pay back.Current liabilities a firm owes for merchandise or services purchased on credit.What the business owes to others . • Notes Payable -.Short or long-term liabilities a business promises to pay by a certain date. • Bonds Payable -.its debts. 17-20 .* CLASSIFYING LIABILITIES Liabilities and Owners’ Equity Accounts LG4 * • Liabilities -. • Accounts Payable -.
• Retained Earnings -Accumulated earnings from the firm’s profitable operations that are reinvested in the business.OWNERS’ EQUITY ACCOUNTS * Liabilities and Owners’ Equity Accounts LG4 * • Owners’ Equity -.The amount of the business that belongs to the owners minus any liabilities of the owners. 17-21 .
expenses. • Net Income/Net Loss -The revenue left over or depleted. 17-22 .that is. its profit after costs.* The INCOME STATEMENT The Income Statement LG4 * • Income Statement -The financial statement that shows a firm’s bottom line . and taxes.
* The INCOME STATEMENT • The formula for the income statement: o Revenue o Minus Cost of Goods Sold The Income Statement LG4 * o Equals Gross Profit o Minus Operating Expenses o Equals Net Income before Taxes o Minus Taxes o Equals Net Income or Net Loss 17-23 .
• Cost of Goods Sold (or Manufactured) -Measures the cost of merchandise the firms sells or the cost of raw materials and supplies it used in producing items for resale.How much a firm earned by buying (or making) and selling merchandise. services rendered or other payments. (Continued) 17-24 . • Gross Profit -.ACCOUNTS of the INCOME STATEMENT * The Income Statement LG4 * • Revenues is the monetary value a firm received for goods sold.
The systematic write-off of the cost of a tangible asset over its estimated useful life.* ACCOUNTS of the INCOME STATEMENT (Continued) The Income Statement LG4 * • Operating Expenses -Expenses a firm incurs in selling goods and services such as rent. 17-25 . salaries and supplies. • Depreciation -.
• FIFO: First-In. First-Out • LIFO: Last-In. Last-Out • Each valuation can affect income and ending inventory valuation.ACCOUNTING for WHAT’S COMING and GOING in SMALL BUSINESS Spotlight on Small Business * * • Generally Accepted Accounting Principles (GAAP) sometimes permits accountants to use different method of accounting for inventory. 17-26 .
Financing 17-27 .Reports cash The Statement of Cash Flows LG4 * receipts and cash disbursements related to the three major activities of a firm: 1. Operations 2.* The STATEMENT of CASH FLOWS • Statement of Cash Flows -. Investments 3.
17-28 . • Managing cash flow is a key consideration of a business and can be particularly challenging for small and seasonal businesses.The difference between cash coming in and cash going out of a business.* UNDERSTANDING CASH FLOW The Need for Cash Flow Analysis LG4 * • Cash Flow -.
Leverage ratios .Performance ratios .Liquidity ratios .Activity ratios 17-29 .* USING FINANCIAL RATIOS Analyzing Financial Performance Using Ratios LG5 * • Ratio Analysis -. • Key ratios include: .The assessment of a firm’s financial condition using calculations and financial ratios developed from the firm’s financial statements.
• Two key ratios are: .Acid-test ratio • This information is found on the firm’s balance sheet.Current ratio .COMMONLY USED LIQUIDITY RATIOS *Liquidity Ratios LG5 * • Liquidity ratios measure a firm’s ability to turn assets into cash to pay its short-term debts. 17-30 .
Liquidity ratios • Current ratio = current assets/ current liabilities • Acid test ratio = cash +AR+marketable securites/ current liab **(the acid test uses easily convertible items but excludes inventory) .
LEVERAGE RATIOS *Leverage (Debt) Ratios LG5 * • Leverage ratios measure the degree to which a firm relies on borrowed funds in its operations. • Key ratios include: .Debt to Owner’s Equity Ratio • This information is found on the firm’s balance sheet. 17-32 .
Leverage ratio • = Total liab/owners equity • *this could show that a firm with too much debt would have difficulty paying creditors and stockholders a return • * a number greater than 100 could imply riskier venture .
Basic earnings per share .PROFITABILITY RATIOS *Profitability (Performance) Ratio LG5 * • Profitability ratios measure how effectively a firm’s managers are using the firm’s various resources to achieve profits.Return on sales .Return on equity • This information is found on the firm’s balance sheet and income statement. 17-34 . • Key ratios include: .
Profitability ratios • EPS • Return on sales = net income / net sales • Return on equity = net income after tax/ owner equity .
Inventory turnover ratio Activity Ratio LG5 * • This information is found on the firm’s balance sheet and income statement.* ACTIVITY RATIOS • Activity ratios measure how effectively management is turning over inventory. • Key ratios include: . 17-36 .
Inventory turn over • How many times are you turning inventory over to make the sales (helps est. poor purchasing. poor stocking . profitability on inv dollars) • Inventory turnover = cogs /avg inventory • **this number could indicate obsolescence. helps est. purchasing.
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