Financial Accounting

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Learning map
Financial statements Operating Resources Investing Resources Financing Decisions Cash flow

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Learning map
Financial statements Operating Resources Investing Resources Financing Decisions Cash flow

Chapter 1 Economic environment of financial information Chapter 2 From accounting events to financial statements Chapter 4 Using financial statements for investment and credit decisions

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Learning map
Financial statements Operating Resources Investing Resources Financing Decisions Cash flow

Chapter 5 Operating cycle, revenue recognition, and receivable valuation Chapter 6 Operating expenses, inventory valuation, and accounts payable

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Learning map
Financial statements Operating Resources Investing Resources Financing Decisions Cash flow

Chapter 7 Long-lived fixed assets, intangible assets, and natural resources

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Learning map
Financial statements Operating Resources Investing Resources Financing Decisions Cash flow

Chapter 9 Debt financing: bonds, notes, and leases Chapter 10 Commitments and contingent liabilities Chapter 11 Equity financing and shareholders equity

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Learning map
Financial statements Operating Resources Investing Resources Financing Decisions Cash flow

Chapter 3 Measuring performance: cash flow and net income

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Learning map
Financial statements Operating Resources Investing Resources Financing Decisions Cash flow

Chapter 1 Economic environment of financial information Chapter 2 From accounting events to financial statements Chapter 4 Using financial statements for investment and credit decisions

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Chapter objectives
1. 2. Identify the basic financial statementsthe income statement, the balance sheet, the statement of cash flow, and the statement of shareholders equity Explain how companies acquire capital from investors who purchase the debt and equity securities issued by such firms to obtain an expected return commensurate with the risk the investors assume. Describe the role of accounting rules in facilitating a properly functioning capital market. Explain the conflicts of interest that can arise between executives, debtholders, and shareholders of a corporation and the costs associated with the divergent incentives that can arise when ownership and management of a company are separated.

3. 4.

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Agenda
Accounting areas
Standards in financial accounting Accounting basis Financial statements Supplements

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Accounting definition

Areas
Standards Accounting basis Financial statements Supplements

Accounting is an information system that identifies, records, and communicates the economic events of an organization to interested users. Who uses accounting information?

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Internal users
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Standards Accounting basis Financial statements Supplements

Managers who plan, organize and run a business

Marketing managers Production supervisors Finance directors Company officers

They have the authority to request ad hoc information

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External users

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Standards Accounting basis Financial statements Supplements

Investors Creditors Others

Regulatory agencies Tax authorities Customers Labor Unions Economic planners

They usually do not have the authority to request ad hoc information

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Accounting areas
Financial
Areas
Standards Accounting basis Financial statements Supplements

Managerial Internal

Audience

External

Temporality
Restrictions Information

Past
Regulated Monetary

Present and future Not regulated

Monetary and non monetary

Nature of the information Scope

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Objetive

Subjective

Aggregated Limited

Financial accounting standards

GAAP
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Standards Accounting basis Financial statements Supplements

The phrase general accepted accounting principles is a technical accounting term that encompasses the conventions, rules, and procedures necessary to define accepted accounting practice at a particular time.
Source: Auditing Standards Board AU411

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Accounting in the US
1887: American Accounting Association 1913: First federal income taxes 1929: Market crash 1933: Security and Exchange Comission (SEC) 1938: SEC delegates its authority to set accounting standards to the American Institute of Accountants 1957: AIA becomes the American Institute of Certified Public Accountants (AICPA) 1959: Accounting Principles Board (APB) de AICPA 1973: Financial Accounting Standard Board (FASB) 2002: Sarbanes Oxley
Fuente: Dennis, A., Taking account: key dates for the profession,Journal of Accountancy, October 2000 (190:4)
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Standards Accounting basis Financial statements Supplements

FASB and IASB

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Johnson, S. Goodbye GAAP, CFO, April 2008, p. 51

Standards in the US

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Standards Accounting basis Financial statements Supplements

FASB SFAS AICPA SEC

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Accounting basis
An accounting basis establishes when an economic transaction has ocurred

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Standards Accounting basis Financial statements Supplements

Cash basis
Accrual basis

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Cash basis accounting

Revenues are recorded only when cash is received Expenses are recorded only when cash is paid

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Standards Accounting basis Financial statements Supplements

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Areas
Standards Accounting basis Financial statements Supplements

Accrual basis accounting Revenues are recorded only when earned, not when cash is received Expenses are recorded only when incurred, not when cash paid

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Kimmel et al, 20097 p 164

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Accrual vs. cash

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Standards Accounting basis Financial statements Supplements

Accrual basis Revenue

Cash inflow

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Accrual vs cash
Accrual
Criterion Recognition Performance measurement GAAP compliant Subjective

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Standards Accounting basis Financial statements Supplements

Cash
Objective

Complete Incomplete Adequate Yes Not adequate No

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Starbucks 2005

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Starbucks 2005

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America Movil 2004

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America Movil 2004

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America Movil 2004

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Macadamia Orchards LP 2004

(f) Revenue. Macadamia nut sales are recognized when nuts are harvested and delivered to the buyer. Contract farming revenue and administrative services revenues are recognized in the period that such services are provided.

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Bachoco 2004

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Financial statements
Accounting system
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Standards Accounting basis Financial statements Supplements

Record the transactions

Economic event Financial statements

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Financial statements
Balance sheet Income statement Statement of cash flow Statement of stockholders equity

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Standards Accounting basis Financial statements Supplements

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Balance sheet
Reports assets and claims to assets. Claims of creditors, liabilities. Claims of owners, stockholders equity. Assets = Liabilities + Stockholders Equity Specific date one point in time!

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Standards Accounting basis Financial statements Supplements

BS 2012
Assets Liabilities SH equity Resources Sources

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Balance sheet
BS 2012
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Standards Accounting basis Financial statements Supplements

Assets

Liabilities
SH equity

Resources Sources

Assets: Resources owned by the business Liabilities: Obligations or debts of business Stockholders equity: Ownership claims on assets

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Balance sheet

Areas
Standards Accounting basis Financial statements Supplements

Resources= Sources

Assets= Libilities+ Stockholders equity

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Classified Balance Sheet

Assets
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Standards Accounting basis Financial statements Supplements

Current Assets Long-Term Investments Property, Plant, and Equipment Intangible Assets

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Areas
Standards Accounting basis Financial statements Supplements

Assets that are expected to be converted to cash or used up within one year. Current assets are listed in order of liquidity. Examples: Cash Short-term investments Receivables Inventories Prepaid expenses

Current Assets

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Long-Term Investments
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Standards Accounting basis Financial statements Supplements

Investments of stocks and bonds of other corporations which are normally held for many years. Investments in long-term assets such as land or buildings that are not currently being used in the companys operations

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Property, Plant, and Equipment

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Standards Accounting basis Financial statements Supplements

Assets with relatively long useful lives. Assets used in operating the business. Examples: land buildings machinery delivery equipment furniture and fixtures

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Depreciation is...
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Standards Accounting basis Financial statements Supplements

Practice of allocating an assets full purchase price to a number of years instead of expensing full cost in year of purchase.

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Accumulated Depreciation...
Areas
Standards Accounting basis Financial statements Supplements

Shows the total amount of depreciation that the company has expensed thus far in the assets life.

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Assets That A Company Depreciates...

Should be shown at cost less accumulated depreciation

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Intangible Assets
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Standards Accounting basis Financial statements Supplements

Non-current assets Have no physical substance Examples: patents copyrights trademarks or trade names franchise

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Assets
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Standards Accounting basis Financial statements Supplements

BS 2012
Current Fixed
Intangible

Liabilities SH equity

Resources Sources

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Classified Balance sheet

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Standards Accounting basis Financial statements Supplements

Liabilities
Current Liabilities Long-Term Liabilities

Stockholders' Equity
Capital stock Retained earnings

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Current Liabilities
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Standards Accounting basis Financial statements Supplements

Obligations that are supposed to be paid within the coming year...

accounts payable wages payable bank loans payable interest payable taxes payable current maturities of long-term bank loans payable

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Long-Term Liabilities
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Standards Accounting basis Financial statements Supplements

Debts expected to be paid after one year

Examples bonds payable mortgages payable long-term notes payable lease liabilities and obligations under employee pension plans

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Stockholders' Equity
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Standards Accounting basis Financial statements Supplements

Capital stock - investments of assets in the business by the stockholders Retained earnings - earnings kept for use in the business

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Classified BS
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Standards Accounting basis Financial statements Supplements

BS 2012
Current Fixed
Current Long-term

Capital Intangible RE

Resources Sources

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Retained earnings
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Standards Accounting basis Financial statements Supplements

Earned on periods before the period reported Earned on the period reported Dividends issued

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Retained earnings
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Standards Accounting basis Financial statements Supplements

1
Periods before Period reported Retained earnings 0 100 100

2
100 75 175

3
175 (60) 115

4
115 90 205

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Expanding the accounting equation

Areas
Standards Accounting basis Financial statements Supplements

Assets=

Liabilities + SH equity

Assets=

Liabilities+

Capital stock

+ Retained

earnings

Assets=

Liabilities + Capital stock

+ RE (before)

+ RE (current period)

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Google, Inc.s Balance Sheet

All numbers in millions

December 31 Assets Current Assets Cash and cash equivalents Short term investments Net receivables Other current assets Total Current Assets Long term investments Property, plant and equipment Intangible assets Other long term assets Total Assets Liabilities Current Liabilities Accounts payable Other current liabilities Total Current Liabilities Long-term liabilities Total Liabilities Stockholders' Equity Common stock Retained earnings Total Stockholders' Equity Total Liab. & Stockholders' Equity

2009

2008

$10,198 14,287 3,846 836 29,167 129 4,845 5,677 679 $40,497

$ 8,657 7,189 2,928 1,404 20,178 85 5,234 5,837 434 $31,768

$2,463 285 2,748 1,745 4,493 15,922 20,082 36,004 $40,497

$ 2,002 300 2,302 1,227 3,529 14,677 13,562 28,239 $31,768

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Cambridge Business Publishers, 2011

Income Statement
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Standards Accounting basis Financial statements Supplements

Reports operating success or failure for a period.

Summarizes revenues and expenses for period If revenue > expense = Net

Income.
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Income statement

Areas
Standards Accounting basis Financial statements Supplements

BS 2012

IS 2012

Liabilities

Assets

Revenues Expenses

CS RE <2012 RE = 2012

Resources Sources

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Google, Inc.s Income Statement

All numbers in millions

Years Ending December 31 Total Revenue Cost of Revenue Gross Profit Operating Expenses Research Development Selling General and Administrative Total Operating Expenses Income from Continuing Operations Total Other Income/(Expense) Earnings Before Interest and Taxes Interest Income Income Before Tax Income Tax Expense Net income

2009 $23,650 8,844 14,806 2,843 3,651 6,494 8,312 0 8,312 69 8,381 1,861 $ 6,520

2008 $21,796 8,622 13,174 2,793 3,749 6,542 6,632 (1,094) 5,538 316 5,854 1,627 $ 4,227

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Cambridge Business Publishers, 2011

Statement of Cash Flows

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Standards Accounting basis Financial statements Supplements

Provides information about cash receipts and cash payments

Summarizes for period Cash effects of operating, investing, and financing activities.

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Statement of Cash Flows

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Standards Accounting basis Financial statements Supplements

Where did the cash come from?

How was cash used during the period? What was the change in the cash balance during the period?

A company cannot survive

without cash!

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Statement of cash flow

Compares two BS identifying changes in cash
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Standards Accounting basis Financial statements Supplements

SCF

BS 2011 BS 2012

Liabilities

Activo

Assets

Liabilities SH equity

SH equity
Resources Sources
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Google, Inc.s Statement of Cash Flow

All numbers in millions

Years Ending December 31 Operating Activities Net Income Depreciation Adjustments To Net Income Changes In Accounts Receivables Changes In Liabilities Changes In Other Operating Activities Net Cash Flow From Operating Activities Investing Activities Capital Expenditures Investments Other Cashflows from Investing Activities Net Cash Flow From Investing Activities Financing Activities Sale/(Purchase) of Stock Other Cash Flows from Financing Activities Net Cash Flow From Financing Activities Effect Of Exchange Rate Changes

2009 $6,520 1,524 785 (504) 511 480 9,316 (810) (7,101) (108) (8,019)

2008 $4,227 1,500 1,799 (335) 183 479 7,853 (2,358) 359 (3,320) (5,319)

143 90 233 11 $ 1,541

(72) 159 87 (46) $2,575

Change In Cash and Cash Equivalents

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Cambridge Business Publishers, 2011

Statement of Stockholders Equity

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Standards Accounting basis Financial statements Supplements

Stockholders equity has two parts: Common Stock and

Retained Earnings, Thus, The Statement of Stockholders Equity reports ALL CHANGES in the common stock and retained earnings accounts

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Statement of stockholders equity

Compares two BS identifying changes in stockholders equity
Areas
Standards Accounting basis Financial statements Supplements

BS 2011 BS 2012

Liabilities

Activo

Assets

Liabilities SH equity

SH equity
SSHE Resources Sources
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Financial statements
SCF
Areas
Standards Accounting basis Financial statements Supplements

BS 2011
BS 2012

Liabilities

Activo

Assets

Liabilities SH equity SH equity SSHE

IS 2012

Resources Sources

Revenues Expenses

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Supplements to the Financial Statements in an Annual Report

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Standards Accounting basis Financial statements Supplements

Management Discussion and Analysis Notes to Financial Statements

Auditors report

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Managements Discussion and Analysis covers three items:

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Standards Accounting basis Financial statements Supplements

1. Liquidity 2. Capital resources 3. Results of operations

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Notes to Financial Statements

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Standards Accounting basis Financial statements Supplements

Explanatory notes and supplementary schedules Clarifies information in financial statements Expands with additional detail Describes accounting policies Explains uncertainties and contingencies

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Auditors Report
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Standards Accounting basis Financial statements Supplements

Certified Public Accountant CPA Auditor (CPA) conducts independent examination of financial statements Fair representation? Follow generally accepted accounting principles (GAAP)?

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Auditors report
Unqualified opinion Qualified opinion Adverse opinion Disclaimer of opinion

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Learning map
Financial statements Operating Resources Investing Resources Financing Decisions Cash flow

Chapter 1 Economic environment of financial information Chapter 2 From accounting events to financial statements Chapter 4 Using financial statements for investment and credit decisions

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