Chapter

Introduction to Financial
Statements and Other
Financial Reporting Topics

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for
use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for
classroom use.
The Financial Statements
• Balance Sheet (Statement of Financial Position)
• Statement of Stockholders’ Equity
(Reconciliation of Stockholders’ Equity
Accounts)
• Income Statement (Statement of Earnings)
• Statement of Cash Flows (Statement of Inflows
and Outflows of Cash)
• Notes

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain
product or service or otherwise on a password-protected website for classroom use.
Balance Sheet
• Shows the financial position of an entity as of a
particular date
– Assets
– Liabilities
– Stockholders’ Equity
• Accounting Equation:
Assets = Liabilities + Stockholders’ Equity
Assets = Liabilities
Capital+Stock + Retained Earnings

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain
product or service or otherwise on a password-protected website for classroom use.
Statement of Stockholders’ Equity
• Reconciles beginning and ending balances of
the stockholders’ equity accounts
– Capital Stock
– Retained Earnings, etc.
• Links the balance sheet to the income statement

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain
product or service or otherwise on a password-protected website for classroom use.
Income Statement
• Summarizes revenues and expenses and gains
and losses, for a specified period
• Reports net income
– Excess of revenues over expense
• Net income is included in retained earnings

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain
product or service or otherwise on a password-protected website for classroom use.
Statement of Cash Flows
• Details the inflows and outflows of cash during a
specified period of time—same period as the
income statement
• Three sections
– Cash flows from operating activities
– Cash flows from investing activities
– Cash flows from financing activities

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain
product or service or otherwise on a password-protected website for classroom use.
Notes
• An integral part of the financial statements
• Required presentation
– Summary of significant accounting policies
– Contingent liabilities
– Subsequent events relating to conditions that existed
at the balance sheet date
• Disclose and adjustment of the financial statements
– Subsequent events relating to conditions that did not
exist at the balance sheet date
• Disclosure but no adjustment of the financial statements

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain
product or service or otherwise on a password-protected website for classroom use.
The Accounting Cycle
• Sequence of accounting procedures completed
during each accounting period
– Recording transactions
– Recording adjusting entries
– Preparing the financial statement

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain
product or service or otherwise on a password-protected website for classroom use.
Recording Transactions
• Transaction is an internal or external event that
causes a change in a company’s assets,
liabilities, or stockholders’ equity
• Recorded in a journal (book of original entry)
• Posted to general ledger
• Double-entry system
– Debit is the left side of an account
– Credit is the right side of an account
Account Title
– Debits = Credits
Debit Credit

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain
product or service or otherwise on a password-protected website for classroom use.
Accounting System Components

Permanent Temporary
Account • Assets, • Revenues, Gains,
types Liabilities, and Expenses,
Stockholders’ Losses, and
Equity Dividends
Balances • Carry forward to • Closed to retained
the next fiscal earnings at year-
period end
• Represented by
the accounting
equation

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain
product or service or otherwise on a password-protected website for classroom use.
Exhibit 2-4—Double Entry System

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain
product or service or otherwise on a password-protected website for classroom use.
Recording Adjusting Entries
• Required by the accrual basis of accounting
• Prepared at the end of the fiscal period
• Records (recognizes) for the current period
– Expenses when incurred
– Revenues when earned
• Recorded in the general journal and posted to
the general ledger before financial statements
are prepared

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain
product or service or otherwise on a password-protected website for classroom use.
Preparing the Financial Statements
• The output of the accounting system
• Two statements are prepared directly from the
adjusted accounts
– Income statement
– Balance sheet
• From analysis of general ledger accounts
– Statement of cash flows

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain
product or service or otherwise on a password-protected website for classroom use.
Auditor’s Opinion
• Audit is conducted by CPAs
• An auditor’s report is the formal statement of the
auditor’s opinion of the financial statements
– Unqualified opinion
– Qualified opinion
– Adverse opinion
– Disclaimer of opinion

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain
product or service or otherwise on a password-protected website for classroom use.
Unqualified Opinion
• The financial statements present fairly
– The financial position
– Results of operations
– Cash flows
• Financial statements are in conformity with
generally accepted accounting principles
• For the user—highest degree of readability

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain
product or service or otherwise on a password-protected website for classroom use.
Qualified Opinion
• Except for the effects to which the qualification
relates, the financial statements present fairly
– The financial position
– Results of operations
– Cash flows
• Financial statements are in conformity with
generally accepted accounting principles
• For the user—determine the significance of the
exception

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain
product or service or otherwise on a password-protected website for classroom use.
Adverse Opinion
• The financial statements do not present fairly
– The financial position
– Results of operations
– Cash flows
• Financial statements are not in conformity with
generally accepted accounting principles
• For the user—reliability of financial statements
need to be seriously questioned

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain
product or service or otherwise on a password-protected website for classroom use.
Disclaimer of Opinion
• The auditor does not express an opinion
• Auditor
– Has not preformed an audit sufficient in scope to form
an opinion or
– Is not independent
• For the user—auditor’s statement conveys no
indication of financial statement reliability

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain
product or service or otherwise on a password-protected website for classroom use.
Ethics
Essential values in interpersonal relationships
• Caring • Loyalty
• Honesty • Fairness
• Accountability • Integrity
• Promise keeping • Respect for others
• Pursuit of excellence • Responsible
citizenship

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain
product or service or otherwise on a password-protected website for classroom use.
Consolidated Statements
• Parent company consolidates with subsidiary
– Report results of operations separately, or
– Sum subsidiary and parent results of operations
• Legal control vs. effective control
• Consolidation occurs when parent has effective
control over the subsidiary
– Holds a majority of risks, rewards, and decision-
making ability

© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain
product or service or otherwise on a password-protected website for classroom use.
Accounting for Business Combinations

• Effected through merger or acquisition

• Accounted for using the purchase method
– Record identifiable assets and liabilities acquired at
their fair values
• Excess of purchase price over fair value of net
assets acquired is reported as goodwill
• Income of the acquired firm is considered from
the date of acquisition
• Retained earnings of the acquired firm do not
continue
© 2013 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain
product or service or otherwise on a password-protected website for classroom use.