Week 1

Introduction to
Financial Accounting
FAC 102
Prof. Shivangi Gupta
© McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC.
Session Overview
• Introduction
• Course Outline Overview
• Agenda for today
– Business Goals and Activities
– Users and Uses of Accounting Information
– Intro to Financial Statements – Content & Purpose
– Accounting Equation
Business
• A business is an economic unit that aims
• To sell
– Goods and services
• To customers
• At prices
– That will provide
– An adequate return to its owners
Business Goals and Activities
Two Major Goals of all business
• Profitability means earning
– A sufficient rate of return
– To maintain owner’s interest
• Liquidity means
– Having enough cash
– To pay debts as they come due
Business Activities
Financing
Activities
Investing
Activities
Operating
Activities
1-6
3 types of activities in all businesses
• Operating activities—selling goods and services to
customers; employing managers and workers; buying
and producing goods and services; and paying taxes.
• Investing activities—spending the capital in

productive ways that help it achieve its objectives.
• Financing activities—obtaining capital or funds to

begin and continue operations.
Accounting as an information system:
Link between business activities and decision makers
Understanding the Business
Sources of Financial Resources
Stockholders Creditors
Potential Return for Potential Return for

Stockholders: Creditors:
• Dividends • Interest
• Higher future stock prices
Both groups estimate future performance, in part, based on

information in the company’s financial statements.
1-9
Exhibit 1.1
The Accounting System and Decision Makers
Accounting System
Financial Accounting Reports Managerial Accounting Reports

Periodic financial statements Detailed plans and continuous
and related disclosures performance reports
provided to
External Decision Makers Internal Decision Makers

Evaluate the company Run the company
Creditors Investors Managers

Creditors: ©Anton Violin/Shutterstock; Investors: ©Pressmaster/Shutterstock; Managers: ©kzenon/123RF
1-10
Why Study Financial Accounting?
Decision makers rely on financial information:

 Investors
 Creditors
 Managers within the firm such as:
 Marketing managers
 Credit managers
 Supply chain managers
 Human resource managers
1-11
The Four Basic Financial Statements: An Overview
BALANCE SHEET – reports the financial position (amount of assets,
liabilities, and stockholders’ equity) of an accounting entity at a point in
time.
INCOME STATEMENT – reports the revenues less the expenses during

the accounting period.
STATEMENT OF STOCKHOLDERS’ EQUITY – reports the changes in each

of the company’s stockholders’ equity accounts, including the change in
the retained earnings balance caused by net income and dividends,
during the reporting period.
STATEMENT OF CASH FLOWS – reports inflows and outflows of cash

during the accounting period in the categories of operating, investing,
and financing.
The notes are an integral part of these financial statements.
1-12
Financial Statement Time Period & Structure
The four basic financial statements can be prepared at
any point in time such as:
 End of the year (for the year ended, annual reports)
 Quarterly (for the quarter ended, quarterly reports)
 Monthly (for the month ended, monthly reports)
The financial statement heading includes:

 Name of the entity (Company name)
 Title of the statement (e.g., Balance Sheet)
 Specific date of the statement (e.g., At December 31,
2020)
 Unit of measure (in millions of dollars)
1-13
Balance Sheet
Assets
Assets Elements of the
Cash
Cash Balance Sheet
Short-Term
Short-Term Investments
Investments
Accounts
Accounts Receivable
Receivable
Notes
Notes Receivable
Receivable
Inventories
Inventories Liabilities
Liabilities
Supplies
Supplies Accounts
Accounts Payable
Payable
Prepaid
Prepaid Expenses
Expenses Accrued
Accrued Expenses
Expenses
Long-Term
Long-Term Investments
Investments Notes
Notes Payable
Payable
Equipment
Equipment Taxes
Taxes Payable
Payable
Buildings
Buildings Unearned
Unearned Revenue
Revenue
Land
Land Bonds
Bonds Payable
Payable
Intangibles
Intangibles
Stockholders’
Stockholders’ Equity
Equity
The Balance Sheet is a Common
Common Stock
Stock
financial snapshot at a Retained
Retained Earnings
Earnings
specific point in time.
1-14
Exhibit 1.2 Balance Sheet
1-15
The Basic Accounting Equation
The basic accounting equation refers to a company’s financial position:

the economic resources that the company owns and the sources of
financing for those resources.
1-16
Interpreting the Balance Sheet
 Creditors and shareholders analyze assets to determine if the

company has sufficient resources available to operate. Assets can
be sold for cash if the company goes out of business.
 Creditors and shareholders are concerned about whether the
company has sufficient sources of cash to pay its liabilities (debts).
If a company does not pay its creditors, the creditors can force the
sale of assets.
 Stockholders’ Equity is considered a protective “cushion” to
creditors because the creditors’ claims legally come before those
of the owners. If the company goes out of business and its assets
are sold, the creditors are paid back before the shareholders
receive any money.
1-17
Income Statement
Elements of the
Revenues
Revenues
Income
Cash
Cash and
and promises
promises received
received
Statement
from
from delivery
delivery of
of goods
goods and
and
services.
services.
Examples:
Examples:
Sales Expenses
Expenses
Sales Revenue
Revenue
Service Resources
Resources used
used to
to earn
earn
Service Revenue
Revenue
Rental period’s
period’s revenues.
revenues.
Rental Revenue
Revenue
Interest
Interest Revenue
Revenue
Examples:
Examples:
Cost
Cost of
of Goods
Goods Sold
Sold
Wages
Wages Expense
Expense
The Income Statement is a Rent
Rent Expense
Expense
measure of performance of Depreciation
Depreciation Expense
Expense
the business. Insurance
Insurance Expense
Expense
Repair
Repair Expense
Expense
Income
Income Tax
Tax Expense
Expense
1-18
BASIC BALANCE SHEET ELEMENTS
Match each account to its classification on the balance sheet:
Stockholders’
Account Asset Liability Equity
a. Notes Payable
b. Cash
c. Common Stock
d. Inventories
e. Accounts Receivable
f. Accounts Payable
g. Property, Plant, &
Equipment
h. Notes Payable
i. Retained Earnings
1-19
Solution
Stockholders’
Account Asset Liability Equity
a. Notes Payable X
b. Cash X
c. Common Stock X
d. Inventories X
e. Accounts Receivable X
f. Accounts Payable X
g. Property, Plant, & X
Equipment
h. Notes Payable X
i. Retained Earnings X
1-20
The Income Statement Equation
Revenues − Expenses = Net Income
Resources earned Resources Revenues earned

from delivery of used minus expenses
goods and (incurred) to incurred.
services earn period’s
revenue Also called “profit”,
“net earnings”, or
“the bottom line.”
If total expenses exceed total revenues, a net loss is reported.
1-21
Exhibit 1.3 Income Statement
1-22
Interpreting the Income Statement
 Investors and creditors closely monitor a firm’s net income

because it indicates the firm’s ability to sell goods and services for
more than they cost to produce and deliver.
 Investors buy stock when they believe that future earnings will
improve and lead to dividends and the ability to sell their stock for
more than they paid.
 Lenders rely on future earnings to provide the resources to repay
loans. The income statement helps investors and creditors estimate
the company’s future earnings.
1-23
1-24
Statement of Stockholders’ Equity
Elements of the
Common
Common Stock
Stock
Statement of
Amounts
Amounts invested
invested in
in the
the
Stockholders’
business
business by
by stockholders.
stockholders.
Equity
Beginning
Beginning Common
Common Stock
Stock
++ Stock
Stock Issuance
Issuance
Ending
Ending Common
Common Stock
Stock
The Statement of
Retained
Retained Earnings
Earnings Stockholders’ Equity reports
Past
Past earnings
earnings not
not distributed
distributed the change in each
to
to stockholders.
stockholders. stockholders’ equity account
during the period.
Beginning
Beginning Retained
Retained Earnings
Earnings
++ Net
Net Income
Income
−− Dividends
Dividends
Ending
Ending Retained
Retained Earnings
Earnings
1-25
Exhibit 1.4 Statement of Stockholders’ Equity
1-26
Interpreting Retained Earnings
 Reinvestment of earnings, or retained earnings, is an important

source of financing for companies.
 Creditors closely monitor a firm’s statement of stockholders’
equity because the company’s policy on dividend payments affects
its ability to repay its debts.
 Every dollar the company pays to stockholders as a dividend
is not available for use in paying back its debt.
 Investors examine retained earnings to determine whether the
company is reinvesting a sufficient portion of earnings to support
future growth.
1-27
Exhibit 1.5
Relationship Among LeNature’s Statements
1-28
Statement of Cash Flows (1 of 2)
+/−
+/− Cash
Cash Flows
Flows from
from Operating
Operating Activities
Activities (CFO)
(CFO)
+/−
+/− Cash
Cash Flows
Flows from
from Investing
Investing Activities
Activities (CFI)
(CFI)
+/−
+/− Cash
Cash Flows
Flows from
from Financing
Financing Activities
Activities (CFF)
(CFF)
Change
Change in
in Cash
Cash
++ Beginning
Beginning Cash
Cash Balance
Balance
Ending
Ending Cash
Cash Balance
Balance
+/ -
Note that each of the three cash flow
sources can be positive (net cash inflow)
or negative (net cash outflow)
1-29
Statement of Cash Flows (2 of 2)
Cash
Cash Flows
Flows from
from Operating
Operating Activities
Activities
Elements of the
Cash
Cash flows
flows directly
directly related
related to
to earning
earning income,
income, such
such as
as Statement of Cash
cash
cash collected
collected from
from customers
customers less
less cash
cash paid
paid for
for Flows
operating
operating expenses,
expenses, such
such as
as cash
cash paid
paid to
to suppliers
suppliers and
and
employees.
employees.
Cash
Cash Flows
Flows from
from Investing
Investing Activities
Activities
Cash
Cash flows
flows related
related to
to acquisition
acquisition or
or sale
sale of
of the
the
company’s
company’s plant
plant and
and equipment
equipment and
and
investments.
investments.
Cash
Cash Flows
Flows from
from Financing
Financing Activities
Activities
Cash
Cash flows
flows directly
directly related
related to
to the
the financing
financing of
of the
the
enterprise,
enterprise, such
such as
as the
the receipt
receipt or
or payment
payment ofof money
money to
to
investors
investors and
and creditors
creditors (except
(except suppliers)
suppliers)
The Statement of Cash Flows reports inflows and

outflows of cash during the accounting period.
1-30
Exhibit 1.6 Statement of Cash Flows
1-31
Interpreting the Cash Flow Statement
Analyze operating cash flow to check the company’s ability to:
 Pay back bank debt

 Expand the company
 Distribute cash dividends to shareholders
The Operating Activities section is thought to be the most important

because it indicates the company’s ability to generate cash from sales
to meet its current cash needs.
1-32
Notes (or Footnotes)
“The notes are an integral part of these financial statements.”
Did you notice this sentence at the bottom of each financial

statement?
All financial statements should be accompanied by notes that provide

the reader with supplemental information to help the reader better
understand the financial statements.
1-33
STATEMENT OF CASH FLOWS
Match each activity to its classification on the statement of cash flows
Activity Operating Investing Financing

a. Cash paid to suppliers and
employees
b. Cash paid to purchase

equipment and other
assets
c. Cash paid for dividends

d. Cash collected from
customers
e. Cash received from selling

equipment and other
long-term assets
f. Cash paid on notes

payable and other
financing
1-34
Solution
Activity Operating Investing Financing

a. Cash paid to suppliers and X
employees
b. Cash paid to purchase X

equipment and other assets
c. Cash paid for dividends X
d. Cash collected from X

customers
e. Cash received from selling X

equipment and other long-
term assets
f. Cash paid on notes payable X

and other financing
1-35
Financial Statement Formats
Include the monetary unit sign ($)
beside the first dollar amount in a
group of items and by group total
Assets are listed on the

balance sheet by ease
of conversion to cash.
Liabilities are listed by the

maturity (due date).
Place a single underline below

the last item in a group before
a total or subtotal, and a
double underline below the
group totals.
1-36
Exhibit 1.7
Summary of
the Four
Basic
Financial
Statements
1-37
COMPONENTS OF FINANCIAL STATEMENTS
• Match each account, element, or transaction to the financial statement(s) on which it would be report
Statement of Statement of Cash

Account or Element Income Statement Stockholders’ Equity Balance Sheet Flows
a. The amount of cash paid
for equipment
b. Cash
c. Notes Payable
d. Common Stock
e. Inventories
f. Cost of Goods Sold
g. The amount of cash

collected from customers
h. Accounts Receivable
i. Notes Payable
j. Marketing Expense
k. Property, Plant, &

Equipment
l. Dividends paid to
stockholders
m. Net Income
1-38
SOLUTION
Statement of Statement of Cash

Account or Element Income Statement Stockholders’ Equity Balance Sheet Flows
a. The amount of cash paid X
for equipment
b. Cash X X
c. Notes Payable X
d. Common Stock X X
e. Inventories X
f. Cost of Goods Sold X
g. The amount of cash X (1)

collected from
customers
h. Accounts Receivable X
i. Notes Payable X
j. Marketing Expense X
k. Property, Plant, & X

Equipment
l. Dividends paid to X X
stockholders
m. Net Income X X X (2)

1-39

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Introduction to

Prof. Shivangi Gupta

• Investing activities—spending the capital in

• Financing activities—obtaining capital or funds to

Sources of Financial Resources

Potential Return for Potential Return for

Both groups estimate future performance, in part, based on

Financial Accounting Reports Managerial Accounting Reports

External Decision Makers Internal Decision Makers

Creditors Investors Managers

Decision makers rely on financial information:

INCOME STATEMENT – reports the revenues less the expenses during

STATEMENT OF STOCKHOLDERS’ EQUITY – reports the changes in each

STATEMENT OF CASH FLOWS – reports inflows and outflows of cash

The notes are an integral part of these financial statements.

The financial statement heading includes:

The basic accounting equation refers to a company’s financial position:

 Creditors and shareholders analyze assets to determine if the

Revenues − Expenses = Net Income

Resources earned Resources Revenues earned

If total expenses exceed total revenues, a net loss is reported.

 Investors and creditors closely monitor a firm’s net income

 Reinvestment of earnings, or retained earnings, is an important

The Statement of Cash Flows reports inflows and

Analyze operating cash flow to check the company’s ability to:

 Pay back bank debt

The Operating Activities section is thought to be the most important

“The notes are an integral part of these financial statements.”

Did you notice this sentence at the bottom of each financial

All financial statements should be accompanied by notes that provide

Activity Operating Investing Financing

b. Cash paid to purchase

c. Cash paid for dividends

e. Cash received from selling

f. Cash paid on notes

Activity Operating Investing Financing

b. Cash paid to purchase X

c. Cash paid for dividends X

d. Cash collected from X

e. Cash received from selling X

f. Cash paid on notes payable X

Assets are listed on the

Liabilities are listed by the

Place a single underline below

Statement of Statement of Cash

f. Cost of Goods Sold

g. The amount of cash

k. Property, Plant, &

Statement of Statement of Cash

f. Cost of Goods Sold X

g. The amount of cash X (1)

k. Property, Plant, & X

m. Net Income X X X (2)

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