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Accounting Concepts and Financial Statements

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Financial Statements
Transactions
•Procedures for sorting, classifying, and presenting (bookkeeping) •Selection of alternative methods of reflecting the effects of certain transactions (accounting)

Financial Statements

An entity’s financial statements are the end product of a process that starts with transactions between the entity and other organizations and individuals.

. Cash Accounts Receivable Accounts Payable Accounts are further summarized in the financial statements.2-3 Accounts Transactions are summarized in accounts.

the annual report will probably include several accompanying footnotes or explanations of the accounting policies and detailed information about many of the amounts and captions shown on the financial statements. .2-4 Financial Statements Required Disclosure Financial position at the end of the period Earnings for the period Cash flows during the period Investments by and distributions to owners during the period Financial Statement that Satisfies Requirement Balance Sheet Income Statement Statement of Cash Flows Statement of Changes in Owners' Equity In addition to the financial statements.

2004 Assets Current Assets Cash Asccounts recievable Merchandise inventory Total current asets Plant and Equipment Equipment Less: Accumulated depreciation Total Assets $ 34.000 (4. $ Equity is the ownership right of the owner(s) of the entity in the assets that remain after deducting the liabilities.000 170.000 80. Inc.000 Liabilities are amounts owed to other entities. Main Street Store.000 Liabilities and Owners' Equity Current Liabilities Short-term debt $ 20. .000 Accounts payable 35.000 Total Liabilities 117. Balance Sheet August 31.000 284.000 Other accrued liabilities 12.2-5 Balance Sheet Assets represent the amount of resources owned by the entity.000 Total current liabilities $ 67.000 Owners' equity Total liabilities and owners' equity 203.000 Long-term debt 50.000) $ 320.000 40.000 $ 320.

Inc. 2004 Assets Current Assets Cash Asccounts recievable Merchandise inventory Total current asets Plant and Equipment Equipment Less: Accumulated depreciation Total Assets $ 34.000 Current liabilities are those liabilities that are likely to be paid with cash within one year of the balance sheet date.000 Accounts payable 35.000 40.000 Total current liabilities $ 67.000 Other accrued liabilities 12.2-6 Balance Sheet Current assets are those assets that are likely to be converted into cash or used to benefit the entity within one year.000 $ 320.000 284.000 Long-term debt 50. Main Street Store.000 Total Liabilities 117.000 Owners' equity Total liabilities and owners' equity 203. $ .000 170. Balance Sheet August 31.000 80.000) $ 320.000 Liabilities and Owners' Equity Current Liabilities Short-term debt $ 20.000 (4.

000 Total current liabilities $ 67. 2004 Assets Current Assets Cash Asccounts recievable Merchandise inventory Total current asets Plant and Equipment Equipment Less: Accumulated depreciation Total Assets $ 34.000 Owners' equity Total liabilities and owners' equity 203.000) $ 320.000 170. Inc.000 Total Liabilities 117.000 80.000 Liabilities and Owners' Equity Current Liabilities Short-term debt $ 20.000 (4.000 40. Balance Sheet August 31.000 $ .000 Other accrued liabilities 12.000 Accounts payable 35.000 $ 320.000 Long-term debt 50.000 284.2-7 Balance Sheet Assets = Liabilities + Equity Main Street Store.

2-8 Balance Sheet Definition Cash Cash on hand and in the bank Accounts receivable Amounts due from customers Merchandise inventory Cost of merchandise acquired and not yet sold Equipment Cost of equipment purchased and used in business Accumulated depreciation Portion of the cost of equipment that is estimated to have been used up in the process of operating the business Short-term debt Amounts borrowed that will be repaid within one year of the balance sheet date Accounts payable Amounts due to suppliers Other accrued liabililites Amounts owed to various creditors Long-term debt Amounts borrowed from banks or other creditors that will not be repaid within one year from the balance sheet date Owners' equity Explained in more detail later in this chapter Account .

general. expenses Income from operations Interest expense Income before taxes Income taxes Net income Net income per share of common stock outstanding $ $ $ $ $ 1. and admin.000 350.200. Main Street Store.000 311.000 30. Inc. Income Statement For the Year Ended August 31.000 18. selling merchandise).000 39.000 850.. Revenues result from the entity’s operating activities (e. Costs and expenses are incurred in generating revenues and operating the entity.g. 2004 Net sales Cost of goods sold Gross profit Selling.000 9.000 $ 1.000 12.80 .2-9 Income Statement The income statement shows the profit for the period of time under consideration.

Gains and losses are also reported on the income statement and result from nonoperating activities.000 311.80 .000 12.000 9. and admin. general.200.000 18. 2004 Net sales Cost of goods sold Gross profit Selling. rather than from the day-to-day operating activities that generate revenues and expenses.000 $ 1.000 350. Inc. Income Statement For the Year Ended August 31. expenses Income from operations Interest expense Income before taxes Income taxes Net income Net income per share of common stock outstanding $ $ $ $ $ 1.000 39.2-10 Income Statement The income statement shows the profit for the period of time under consideration.000 850.000 30. Main Street Store.

and administrative expenses Income from operations Interest expense Income taxes Net income per share of common stock outstanding . Often referred to as "earnings per share" or EPS Selling. less the amount of customer returns of merchandise Represents the total cost of merchandise removed from inventory and delivered to customers as a result of sales Difference between net sales and cost of goods sold.2-11 Income Statement Captions Net sales Cost of goods sold Gross profit Explanation Amount of sales of merchandise to customers. Represents the seller's maximum amount of "cushion" from which all other expenses of the business must be deducted before it is possible to have net income Represent the operating expenses of the entity Represents one of the most important measures of the firm's activities Represents the cost of using borrowed funds Shown after all of the other income statement items have been reported because income taxes are a function of the firm's income before taxes A significant item in evaluating the market value of a share of common stock. general.

000) 13.000 90. 2004 Total owners' equity $ - $ $ 100.000 (5. .000 190. 2004 Retained Earnings: Beginning balance Net income for the year Less: Cash dividends of $. 2004 Paid-In Capital: Beginning balance Common stock.000 shares issued and outstanding Additional paid-in capital Balance. August 31.50 per share Balance. 10. 50. Statement of Changes in Owners' Equity For the Year Ended August 31. Inc.000 203.000 $ $ This financial statement shows the detail of owners’ equity and explains the changes that occurred in the components of owners’ equity during the year. par value $10.000 18. August 31.000 shares authorized.2-12 Statement of Changes in Owners’ Equity Main Street Store.

2-13 Statement of Changes in Owners’ Equity Captions Paid-in capital Common stock Explanation Represents the total amount invested in the entity by the owners Reflects the number of shares authorized by the corporation's charter. and the number of shares that are still held by the stockholders Difference between the total amount invested by the owners and the par value or stated value of the stock Represents the cumulative net income of the entity that has been retained for use in the business Are distributions of earnings to the owners Additional paid-in capital Retained earnings Dividends . the number of shares issued to stockholders.

2-14 Statement of Cash Flows Main Street Store.000 $ 34.000) (170. .000 (80. 2004 Cash Flows from Operating Activities: Net income Add (deduct) items not affecting cash: Depreciation expense Increase in accounts receivable Increase in merchandise inventory Increase in current liabilities Net cash used by operating activities Cash Flows from Investing Activities: Cash paid for equipment Cash Flows from Financing Activities: Cash received from issue of long-term debt Cash received from sale of common stock Payment of cash dividend on common stock Net cash provided by financing activities Net increase in cash for the year $ 18.000) $ (40.000) 50. Inc.000 4.000 (161.000 190.000) $ 235.000 (5. Statement of Cash Flows For the Year Ended August 31.000) 67.000 The purpose of this financial statement is to identify the sources and uses of cash during the year.

2-15 Time-Line Model 8/31/03 Balance Sheet A = L + OE Fiscal 2004 Income Statement for the Year Revenue .Expenses Net Income 8/31/04 Balance Sheet A = L + OE Statement of Changes in Owners’ Equity Beginning Balances Paid-in Capital Changes Retained Earnings Changes: + Net Income .Dividends Ending Balances Statement of Cash Flows Cash Provided (Used) by: Operating Activities Investing Activities Financining Activities + Beginning Cash Balance Ending Cash Balance .

2-16 Financial Statement Relationships Balance Sheet Assets = Liabilities + Owners' Equity Net income = Income Statement Revenues Expenses The arrow indicates that net income affects retained earnings. which is a component of owners’ equity. .

2-17 Financial Statement Relationships If assets equal $300.000 and liabilities equal $125.000 = = Liabilities 125. what is owners’ equity? Balance Sheet Assets 300.000.000 + + Owners' Equity ? .

.000 Owners’ equity equals $175.000 = = Liabilities 125.2-18 Financial Statement Relationships If assets equal $300.000 .000 and liabilities equal $125. what is owners’ equity? Balance Sheet Assets 300.000).000.$125.000 + + Owners' Equity 175.000 ($300.

000 Liabilities + 125.000) 122. suppose that total assets increase $12.2-19 Financial Statement Relationships Now. Balance Sheet Assets = 300.000 ? ? What is owners’ equity at the end of the year? .000 during the year.000 Owners' Equity 175.000 during the year and total liabilities decrease $3.000 312.000 12.000 (3.

000 Owners' Equity 175.000) 122. it must be $190.000 at the beginning of the year.000. Since owners’ equity was $175. .000 Liabilities + 125.000 Owners’ equity must have increased by $15.2-20 Financial Statement Relationships Now.000 12. suppose that total assets increase $12.000 312. Balance Sheet Assets = 300.000 during the year and total liabilities decrease $3.000 190.000 (3.000 during the year.000 15.000 at the end of the year.

. Unit of Measurement Only transactions denominated in Currency are recorded in the accounting records.2-21 Concepts/Principles Now Future Accounting Entity Every economic entity can be separately identified and accounted for. Cost Principle Transactions are recorded at their original cost to the entity as measured in dollars. Going Concern Concept The presumption that the entity will continue to operate in the future—it’s not being liquidated.

Matching Concept All expenses incurred to generate that period’s revenues be deducted from revenues earned. . even though the cash receipt or payment occurs at another time. Accrual Accounting Recognize revenue at the point of sale and recognize expenses when incurred.2-22 Concepts/Principles Objectivity The accountants’ desire to have a given transaction recorded in the same way in all situations. Accounting Period The period of time selected for reporting results of operations and changes in financial position.

make judgments and estimates that result in lower profits and asset valuations. Materiality The increased benefit of increased accuracy should out weigh the cost of achieving the increased accuracy. . Conservatism When in doubt. Full Disclosure Circumstances and events that make a difference to financial statement users should be disclosed.2-23 Concepts/Principles Consistency Provides meaningful trend comparisons over several years.

.2-24 Limitations of Financial Statements Financial statements report only quantitative economic data. such as the value of the management team or the employees’ morale. They do not reflect qualitative economic variables.

Many estimates are used. . depreciation. such as warranty costs. and pension expense.2-25 Limitations of Financial Statements The balance sheet does not report market values or replacement cost of the assets.

It contains the financial statements. It may also contain Management’s Discussion and Analysis (MD&A).2-26 The Corporation’s Annual Report The annual report is distributed to shareholders (and others). together with the report of the external auditor’s examination of the financial statements. .

2-27 Questions? .