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McGraw-Hill/Irwin

Copyright 2011 by The McGraw-Hill Companies, Inc. All rights reserved.

Chapter 1
Business Decisions and Financial
Accounting

PowerPoint Authors:
Susan Coomer Galbreath, Ph.D., CPA
Charles W. Caldwell, D.B.A., CMA
Jon A. Booker, Ph.D., CPA, CIA
Fred Phillips, Ph.D., CA

Learning Objective 1

Describe various
organizational forms and
business decision makers.

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Organizational Forms
Sole
Proprietorship

Business organization owned by


one person. The owner is
personally liable for all debts of
the business.

Partnership

Business organization owned by


two or more people. Each partner
is personally liable for all debts of
the business.

Corporation

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A separate entity from both a legal


and accounting perspective.
Owners of corporations
(stockholders) are not personally
responsible for debts of the
corporation.

Organizational Forms
Percentage of Organizational Forms in
the U.S.
5% 3%

Sole Proprietorships

20%

Corporations

72%

Partnerships
Limited Liability
Companies

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Source: BizStats.com

The Accounting System


Business and
Financing Activities

Accounting
System

Accounting Reports
External users
(creditors, investors, etc.)

Financial

Managerial

Internal users
(managers, etc.)

Accounting is a system of analyzing, recording,


summarizing and reporting the results of a
businesss activities.
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Learning Objective 2

Describe the purpose,


structure, and content of the
four basic financial
statements.

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The Basic Accounting Equation


Resources Owned . . .
by the company

Resources Owed . . .
to creditors

to stockholders

Assets = Liabilities + Stockholders Equity


Separate Entity
Assumption
Requires that a businesss
financial reports include
only the activities of the
business and not those of
its stockholders.
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Assets
Resources controlled by the
company that have
measurable value and are
expected to provide future
benefits to the company.

Cash

Equipment
Supplies

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Furniture

Liabilities
Amounts owed by
the business to
creditors.

Notes
Payable

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Accounts
Payable

Stockholders Equity
Owners claim to the
business resources.

Contributed
Capital

Retained
Earnings
Stock Certificate

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Revenues, Expenses and Net Income


Revenues Expenses = Net Income
Revenues
Sales of goods or services
to customers. They are
measured at the
amount the business
charges the customer.

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Expenses
The costs of business
necessary to earn
revenues, including
wages to employees,
advertising, insurance,
and utilities.

Dividends
Distributions of a
companys earnings to its
stockholders as a return
on their investment.

Dividends are not an expense.


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Financial Statements
Income
Statement
Statement
of Retained
Earnings

Financial
statements are
typically prepared in
this order.

Balance
Sheet
Statement
of Cash
Flows
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The Income Statement


PIZZA AROMA, INC.
Income Statement
For the Month Ended September 30, 2010
Revenues
Pizza Revenue
$ 11,000
Total Revenue
11,000
Expenses
Supplies Expense
Wages Expense
Rent Expense
Utilities Expense
Insurance Expense
Advertising Expense
Income Tax Expense
Total Expenses
Net Income
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4,000
2,000
1,500
600
300
100
500
9,000
2,000

The unit of
measurethe
Reports
assumption
amount
of
states that
revenues
results of
less
business
expenses
activities
forshould
a period
be
reported
in an
of time.
appropriate
monetary
unit.

The Statement of Retained Earnings


PIZZA AROMA, INC.
Statement of Retained Earnings
For the Month Ended September 30, 2010
Retained Earnings, Sept. 1, 2010
$
Add: Net Income
2,000
Subtract: Dividends
(1,000)
Retained Earnings, Sept. 30, 2010
$ 1,000

Reports the way that net income and the


distribution of dividends affected the financial
position of the company during the period.

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The Balance Sheet


Reports at a point in time:
1. What a business owns
(assets).
2. What it owes to
creditors (liabilities).

3. What is left over for the


owners of the
companys stock
(stockholders equity).

PIZZA AROMA, INC.


Balance Sheet
At September 30, 2010
Assets
Cash
Accounts Receivable
Supplies
Equipment
Total Assets
Liabilities
Accounts Payable
Notes Payable
Total Liabilities
Stockholders' Equity
Contributed Capital
Retained Earnings
Total Stockholders' Equity
Total Liabilities and Stockholders' Equity

BASIC ACCOUNTING EQUATION


Assets = Liabilities + Stockholders Equity
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$ 14,000
1,000
3,000
40,000
$ 58,000
$

7,000
20,000
27,000

30,000
1,000
31,000
$ 58,000

The Statement of Cash Flows


PIZZA AROMA, INC.
Statement of Cash Flows
For the Month Ended September 30, 2010
Cash Flows from Operating Activities
Cash collected from customers
$
Cash paid to suppliers and employees
Cash Provided by Operating Activities
Cash Flows from Investing Activities
Cash paid to buy equipment
Cash Used in Investing Activities
Cash Flows from Financing Activities
Capital contributed by stockholders
Cash dividends paid to stockholders
Cash borrowed from the bank
Cash Provided by Financing Activities
Change in Cash
Beginning Cash Balance, Sept. 1, 2010
Ending Cash Balance, Sept. 30, 2010
$

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10,000
(5,000)
5,000
(40,000)
(40,000)
30,000
(1,000)
20,000
49,000
14,000
14,000

Summarizes
how a
businesss
operating,
investing, and
financing
activities
caused its
cash balance
to change over
a particular
period of time.

Notes to the Financial Statements

Notes help financial statement users


understand how the amounts were
derived and what other information
may affect their decisions.

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Relationships Among the Financial Statements


PIZZA AROMA, INC.
Income Statement
For the Month Ended September 30, 2010
Revenues
Pizza Revenue
$
11,000
Total Revenue
11,000
Expenses
Supplies Expense
Wages Expense
Rent Expense
Utilities Expense
Insurance Expense
Advertising Expense
Income Tax Expense
Total Expenses
Net Income

4,000
2,000
1,500
600
300
100
500
9,000
2,000

PIZZA AROMA, INC.


Statement of Retained Earnings
For the Month Ended September 30, 2010
Retained Earnings, Sept. 1, 2010
$
Add: Net Income
2,000
Subtract: Dividends
(1,000)
Retained Earnings, Sept. 30, 2010
$ 1,000
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Net income
flows from the
Income
Statement to
the Statement
of Retained
Earnings.
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Relationships Among the Financial Statements


PIZZA AROMA, INC.
Balance Sheet
At September 30, 2010

Ending Retained
Earnings flows from
the Statement of
Retained Earnings to
the Balance Sheet.
2

PIZZA AROMA, INC.


Statement of Retained Earnings
For the Month Ended September 30, 2010
Retained Earnings, Sept. 1, 2010
$
Add: Net Income
2,000
Subtract: Dividends
(1,000)
Retained Earnings, Sept. 30, 2010
$ 1,000
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Assets
Cash
Accounts Receivable
Supplies
Equipment
Total Assets
Liabilities
Accounts Payable
Notes Payable
Total Liabilities
Stockholders' Equity
Contributed Capital
Retained Earnings
Total Stockholders' Equity
Total Liabilities and Stockholders' Equity

$ 14,000
1,000
3,000
40,000
$ 58,000
$

7,000
20,000
27,000

30,000
1,000
31,000
$ 58,000

Relationships Among the Financial Statements


PIZZA AROMA, INC.
Statement of Cash Flows
For the Month Ended September 30, 2010
Cash Flows from Operating Activities
Cash collected from customers
$
Cash paid to suppliers and employees
Cash Provided by Operating Activities
Cash Flows from Investing Activities
Cash paid to buy equipment
Cash Used in Investing Activities
Cash Flows from Financing Activities
Capital contributed by stockholders
Cash dividends paid to stockholders
Cash borrowed from the bank
Cash Provided by Financing Activities
Change in Cash
Beginning Cash Balance, Sept. 1, 2010
Ending Cash Balance, Sept. 30, 2010
$

PIZZA AROMA, INC.


Balance Sheet
At September 30, 2010

10,000
(5,000)
5,000
(40,000)
(40,000)
30,000
(1,000)
20,000
49,000
14,000
14,000

Assets
Cash
Accounts Receivable
Supplies
Equipment
Total Assets
Liabilities
Accounts Payable
Notes Payable
Total Liabilities
Stockholders' Equity
Contributed Capital
Retained Earnings
Total Stockholders' Equity
Total Liabilities and Stockholders' Equity

$ 14,000
1,000
3,000
40,000
$ 58,000
$

7,000
20,000
27,000

30,000
1,000
31,000
$ 58,000

Cash on the Balance Sheet and Cash at End


of Year on the Statement of Cash Flows agree.
3

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Learning Objective 3

Explain how financial


statements are used by
decision makers.

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Using Financial Statements


Creditors

Investors

(1)Is the company


generating enough
cash to make
payments on its
loans? SCF

(1)What immediate
return (through
dividends) on my
contributions? SRE

(2)Does the company


have enough
assets to cover its
liabilities? B/S

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(2)What is the longterm return (through


stock price increases
resulting from the
companys profits)?.. I/S

Learning Objective 4

Describe factors that


contribute to useful financial
information.

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External Financial Reporting


Main Goal: Provide useful financial information to
external users for decision making.

Useful

Relevant

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Faithful
Faithful
Representation

Accounting Standards

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World

United
States

Where?

FASB

Who?

IASB

GAAP

What?

IFRS

Ethical Conduct
When faced with an ethical dilemma:
Identify who will
benefit from the
situation and how
others will be
harmed.
Identify the
alternative courses
of action.
Choose the
alternative that is the
most ethical.
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Chapter 1
Supplement
Accounting Careers

Overview of Career Choices in Accounting


Private Accounting
Public company
Private company
Nonprofit organization

Multinational
Mid-sized
Small

Public Accounting

Type of Organization

CPA firm

Size of Organization

"Big 4" (international partnerships):


Deloitte & Touche, Ernst & Young,
KPMG, PricewaterhouseCoopers
Regional
Local (partnership or proprietorship)

Auditing (assurance services)


Taxation
General accounting
Consulting such as forensic
Budgeting
(fraud) accounting, computer
Cost accounting
systems security, outsourcing,
Taxation
Functions and Specializations
bookkeeping services, and
Internal auditing
industry specialization
Others (e.g., finance, information
(e.g., high tech, banking,
systems, forecasting)
mergers and acquisitions,
and communications)
$32,000-$47,500*
$40,800-$57,500*
depending on type, size,
depending on size, geographic
Starting Salaries
geographic location, and
location, and functional area or
functional area
specialization
Chief Financial Officer (CFO),
Senior Accountant,
Controller, Treasurer,
Typical Senior Positions
Manager,
Director of Accounting
Partner
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*Source: 2008 Robert Half Salary Guide. www.collegegrad.com/careers/all.shtml

Chapter 1
Solved Exercises
M1-13, E1-3, E1-6, E1-8, S1-6 (Req. 1)

M1-13 Preparing a Statement of Retained Earnings


Stone Culture Corporation was organized on January 1, 2009.
For its first two years of operations, it reported the following:
Net Income for 2009

$ 36,000

Net Income for 2010

45,000

Dividends for 2009

15,000

Dividends for 2010

20,000

Total assets at the end of 2009

125,000

Total assets at the end of 2010

242,000

On the basis of the data given, prepare a statement of retained


earnings for 2009 (its first year of operations) and 2010. Show
computations.

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M1-13 Preparing a Statement of Retained Earnings

STONE CULTURE CORPORATION


Statement of Retained Earnings
For the Year Ended December 31, 2009
Retained Earnings, January 1, 2009
$
Add: Net Income
36,000
Subtract: Dividends
(15,000)
Retained Earnings, December 31, 2009
$ 21,000
STONE CULTURE CORPORATION
Statement of Retained Earnings
For the Year Ended December 31, 2010
Retained Earnings, January 1, 2010
$ 21,000
Add: Net Income
45,000
Subtract: Dividends
(20,000)
Retained Earnings, December 31, 2010
$ 46,000
1-33

E1-3 Preparing a Balance Sheet


DSW is a designer shoe warehouse, selling some of the most
luxurious and fashionable shoes at prices that people can actually
afford. Its balance sheet, at November 1, 2008, contained the
following items (in thousands).
Accounts Receivable

11,888

Cash

45,570

Contributed Capital
Notes Payable
Other Assets
Other Liabilities

291,248
99,044
494,294
79,148

Property, Plant and Equipment

233,631

Retained Earnings

179,538

Total Assets

785,383

Total Liabilities & Stockholders' Equity

Required:
1. Prepare the balance sheet as of November 1, solving for the
missing amount.
2. As of November 1, did most of the financing for assets come
from creditors or stockholders?
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E1-3 Preparing a Balance Sheet


DSW, Inc.
Balance Sheet
At November 1, 2008
(in thousands)
Assets
Cash
Accounts Receivable

$45,570
11,888

Property, Plant, and Equipment

233,631

Other Assets

494,294

Total Assets

$785,383

Liabilities
Accounts Payable

$136,405

Notes Payable

99,044

Other Liabilities

79,148

Total Liabilities

314,597

Stockholders Equity
Contributed Capital

291,248

Retained Earnings

179,538

Total Stockholders Equity


Total Liabilities and Stockholders Equity
1-35

470,786
$785,383

Most of the financing


as of November 1
came from
stockholders. The
stockholders have
financed $470,786 of
the total assets and
creditors have
financed only
$314,597 of the total
assets of the
company.

E1-6 Preparing an Income Statement and Inferring Missing


Values
Regal Entertainment Group operates movie theaters and food
concession counters throughout the United States. Its income
statement for the quarter ended June 26, 2008, reported the
following amounts (in thousands):
Admissions Revenues

455,700

Net Income

Concessions Expenses

25,500

Other Expenses

233,800

Concessions Revenues

188,900

Other Revenues

31,200

Film Rental Expenses

247,000

Rent Expense

90,000

Gen. & Admin. Expenses

65,700

Total Expenses

Required:
1. Solve for the missing amounts and prepare an Income Statement
for the quarter ended June 26, 2008. TIP: First put the items in the
order they would appear on the Income Statement and then solve for
the missing values.
2. What is Regals main source of revenue and biggest expense?
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E1-6 Preparing an Income Statement and Inferring Missing Values


REGAL ENTERTAINMENT GROUP
Income Statement
For the Quarter Ended June 26, 2008
(in thousands)
Revenues
Admissions Revenues
Concessions Revenues
Other Revenues

455,700
188,900
31,200

Total Revenues

$ 675,800

Expenses
Concessions Expenses
Film Rental Expenses

247,000

General and Administrative Expenses

65,700

Rent Expense

90,000

Other Expenses
Total Expenses
Net Income
1-37

25,500

233,800
?
662,000
?
$ 13,800

E1-6 Preparing an Income Statement and Inferring Missing Values


REGAL ENTERTAINMENT GROUP
Income Statement
For the Quarter Ended June 26, 2008
(in thousands)
Revenues
Admissions Revenues
Concessions Revenues
Other Revenues

455,700
188,900
31,200

Total Revenues

$ 675,800

Expenses
Concessions Expenses
Film Rental Expenses

247,000

General and Administrative Expenses

65,700

Rent Expense

90,000

Other Expenses
Total Expenses
Net Income
1-38

25,500

233,800
662,000
$ 13,800

E1-8 Inferring Values Using the Income Statement and Balance


Sheet Equations
Review the chapter explanations of the income statement and the
balance sheet equations. Apply these equations in each of the
following independent cases to compute the two missing amounts
for each case. Assume that it is the end of the first full year of
operations for the company.
TIP: First identify the numerical relations among the columns
using the balance sheet and income statement equations. Then
compute the missing amounts.
Independent
Cases
A

Total
Revenues
$

100,000 $

B
80,000

50,000

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Net Income
(Loss)

82,000 $
80,000

C
E

Total
Expenses

$
12,000

86,000
81,000

Total Assets

Total
Liabilities

150,000 $

70,000 $

112,000
104,000

Stockholders'
Equity
60,000

26,000

13,000

22,000

77,000

(6,000)

73,000

28,000

E1-8 Inferring Values Using the Income Statement and Balance


Sheet Equations

R E = NI
Independent
Cases
A

1-40

Total
Revenues
$

Total
Expenses

100,000 $

Net Income
(Loss)

A = L + SE
Total Assets

Total
Liabilities

Stockholders'
Equity

82,000 $

18,000 $

150,000 $

70,000 $

80,000

92,000

80,000

12,000

112,000

52,000

60,000

80,000

86,000

(6,000)

104,000

26,000

78,000

50,000

37,000

13,000

99,000

22,000

77,000

75,000

81,000

(6,000)

101,000

73,000

28,000

E1-8 Inferring Values Using the Income Statement and Balance


Sheet Equations

R E = NI
Independent
Cases
A

1-41

Total
Revenues
$

Total
Expenses

100,000 $

Net Income
(Loss)

A = L + SE
Total Assets

Total
Liabilities

Stockholders'
Equity

82,000 $

18,000 $

150,000 $

70,000 $

80,000

92,000

80,000

12,000

112,000

52,000

60,000

80,000

86,000

(6,000)

104,000

26,000

78,000

50,000

37,000

13,000

99,000

22,000

77,000

75,000

81,000

(6,000)

101,000

73,000

28,000

S1-6 (Req. 1) Critical Thinking: Developing a Balance Sheet


On September 30, Ashley and Jason started arguing about who is
better off. Jason said he was better off because he owned a
PlayStation console that he bought last year for $350. He figures
that, if needed, he could sell it to a friend for $280. Ashley argued
that she was better off because she had $1,000 cash in her bank
account and a vintage car that she bought two years ago for $800
but could now sell for $1,400. Jason countered that Ashley still owed
$250 on her car loan and that Jasons dad promised to buy him a
Porsche if he does really well in his accounting class. Jason said he
had $6,000 cash in his bank account right now because he just
received a $4,800 student loan. Ashley knows that Jason also owes
a tuition installment of $800 for this term.
Required:
1. Prepare a financial report that compares what Ashley and Jason
each own and owe on September 30. Make a list of any decisions
you had to make when preparing your report.

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S1-6 (Req. 1) Critical Thinking: Developing a Balance Sheet

Balance Sheet
ASSETS
What is owned
Cash
Console
Car
TOTAL
What is owed
LIABILITIES
Car loan
Tuition Payable
Student Loan
TOTAL
Net worth
EQUITY
TOTAL
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Ashley

Jason

$1,000
-0800
$1,800

$6,000
350
-0$6,350

$ 250
-0-0250
1,550
$1,800

$ -0800
4,800
5,600
750
$6,350

End of Chapter 1