Chapter 1

Introducing Accounting in
Business

C1

Importance of Accounting
Accounting
Accounting

is a
system that

Identifies
Identifies
Records
Records

Relevant
Relevant
Reliable
Reliable
Comparable
Comparable

information
that is

Communicates
Communicates

about
aboutan
an
organizations
organizations
business
businessactivities.
activities.
1-2

C1

Accounting Activities

Identifying
Business
Activities

Recording
Business
Activities

Communicating
Business
Activities

1-3

Users of Accounting
Information

C2

External Users

Lenders

Consumer groups

Internal Users

Managers

Sales staff

Shareholders External auditors

Officers

Budget officers

Governments Customers

Internal auditors Controllers

1-4

C2

Users of Accounting
Information
External Users

Financial accounting provides

external users (shareholders,
lenders, etc.) with financial
statements.

Internal Users

Managerial accounting provides

information needs for internal
decision makers (officers,
managers, etc.).
1-5

C2

Opportunities in Accounting
Financial
Financial

Preparation
Preparation
Analysis
Analysis
Auditing
Auditing
Regulatory
Regulatory
Consulting
Consulting
Planning
Planning
Criminal
Criminal
investigation
investigation

AccountingAccountingrelated
related

Managerial
Managerial
General
Generalaccounting
accounting
Cost
Costaccounting
accounting
Budgeting
Budgeting
Internal
Internalauditing
auditing
Consulting
Consulting
Controller
Controller
Treasurer
Treasurer
Strategy
Strategy
Lenders
Lenders
Consultants
Consultants
Analysts
Analysts
Traders
Traders
Directors
Directors
Underwriters
Underwriters
Planners
Planners
Appraisers
Appraisers

Taxation
Taxation
Preparation
Preparation
Planning
Planning
Regulatory
Regulatory
Investigations
Investigations
Consulting
Consulting
Enforcement
Enforcement
Legal
Legalservices
services
Estate
Estateplans
plans
FBI
FBIinvestigators
investigators
Market
Marketresearchers
researchers
Systems
Systemsdesigners
designers
Merger
services
Merger services
Business
Businessvaluation
valuation
Forensic
Forensicaccountant
accountant
Litigation
Litigationsupport
support
Entrepreneurs
Entrepreneurs

C2

Accounting Jobs by Area

1-7

C3

EthicsA Key Concept

Ethics
Beliefs that
distinguish
right from
wrong

Accepted
standards of
good and bad
behavior

1-8

C3

Guidelines for Ethical Decisions

Identify
ethical concerns

Use personal
ethics to
recognize an
ethical concern.

Analyze
options

Consider all
good and bad
consequences.

Make ethical
decision

Choose best
option after
weighing all
consequences.
1-9

C4

Generally Accepted Accounting

Principles
Financial
Financial accounting
accountingis
is governed
governed by
byconcepts
conceptsand
and
rules
rulesknown
knownas
as generally
generallyaccepted
accepted accounting
accounting
principles
principles(GAAP).
(GAAP).
Relevant
Relevant
Information
Information
Reliable
Reliable Information
Information

Comparable
Comparable
Information
Information

Affects
Affectsdecisions
decisionsof
ofits
its
users.
users.
Is
Istrusted
trustedby
by
users.
users.
Used
Usedin
incomparisons
comparisons
across
acrossyears
years&&companies.
companies.
1-10

C4

Setting Accounting Principles

In
Inthe
theUnited
UnitedStates,
States,the
theSecurities
Securitiesand
andExchange
Exchange
Commission,
Commission,aagovernment
governmentagency,
agency,has
hasthe
thelegal
legalauthority
authority
to
toestablish
establishreporting
reportingrequirements
requirementsand
andset
setGAAP
GAAPfor
for
companies
companiesthat
thatissue
issuestock
stockto
tothe
thepublic.
public.
The
The Financial
Financial Accounting
Accounting
Standards
Standards Board
Board is
is the
the private
private
group
group that
that sets
sets both
both broad
broad and
and
specific
specific principles.
principles.

The International Accounting Standards Board (IASB) issues international standards that identify preferred accounting practices
in other countries. More than 115 countries now require or permit
companies to prepare financial reports following IFRS.
1-11

C4

Principles and Assumptions

of Accounting

Measurement principle (also called

cost principle) means that accounting
information is based on actual cost.

Going-concern assumption means

that accounting information reflects a
presumption the business will
continue operating.

Revenue recognition principle provides

guidance on when a company must
recognize revenue.

Monetary unit assumption means we

can express transactions in money.

Matching principle (expense

recognition) prescribes that a company
must record its expenses incurred to
generate the revenue.

Time period assumption presumes

that the life of a company can be
divided into time periods, such as
months and years.

Full disclosure principle requires a

company to report the details behind
financial statements that would impact
users decisions.

Business entity assumption means

that a business is accounted for
separately from its owner or other
business entities.
1-12

C4

Business Entity Forms

Sole
Sole
Proprietorship
Proprietorship

Partnership
Partnership

Corporation
Corporation

1-13

C4

Sarbanes-Oxley Act
In response to a number of publicized accounting
scandals (Enron, WorldCom, Tyco, ImClone),
Congress passed the Sarbanes-Oxley Act (also
called SOX) in 2002 to help curb financial abuses
at companies that issue their stock to the public.
The act requires that public companies apply
both accounting oversight and stringent internal
controls. The desired results include more
transparency, accountability, and truthfulness in
reporting transactions.
1-14

A1

Accounting Equation
Assets
Assets

Liabilities
Liabilities

Assets

Equity
Equity

Liabilities
+ Equity

1-15

Assets

A1

Cash
Cash
Accounts
Accounts
Receivable
Receivable

Vehicles
Vehicles

Store
Store
Supplies
Supplies

Resources
Resources
owned
owned or
or
controlled
controlled
by
by aa
company
company

Notes
Notes
Receivable
Receivable

Land
Land

Buildings
Buildings
Equipment
Equipment
1-16

A1

Liabilities
Accounts
Accounts
Payable
Payable

Notes
Notes
Payable
Payable

Creditors
Creditors
claims
claims on
on
assets
assets
Taxes
Taxes
Payable
Payable

Wages
Wages
Payable
Payable
1-17

A1

Equity
Retained
Retained
Earnings
Earnings

Contributed
Contributed
Capital
Capital

Owners
Owners
claim
claim on
on
assets
assets

Dividends
Dividends
1-18

A1

Expanded Accounting Equation

Assets
Assets
Assets
Assets

Contributed
Contributed
Capital
Capital

=
=
_

Liabilities
Liabilities
Liabilities
Liabilities

Dividends
Dividends

+
+

Revenues
Revenues

Equity
Equity
Equity
Equity

_ Expenses
Expenses

Retained Earnings
1-19

P1

Transaction Analysis
Business activities can be described in terms of
transactions and events. External transactions
are exchanges of value between two entities,
which yield changes in the accounting equation.
Internal transactions are exchanges within any
entity; they can also affect the accounting
equation. Events refer to happenings that affect
an entitys accounting equation and can be
reliably measured. Transaction analysis is
defined as the process used to analyze
transactions and events.
1-20

P1

Transaction Analysis
S. Scott invests $20,000 cash to start the
business in return for stock.

1-21

P1

Transaction Analysis
Purchased supplies with $1,000 cash.

1-22

P1

Transaction Analysis
Purchased equipment for $15,000 cash.

1-23

P1

Transaction Analysis
Purchased supplies of $200 and
equipment of $1,000 on account.

1-24

P1

Transaction Analysis

Borrowed $4,000 from 1st American Bank.

1-25

P1

Transaction Analysis
The balances so far appear below. Note that the
accounting equation is still in balance.

1-26

P1

Transaction Analysis

Now, lets look at transactions

involving revenues, expenses, and
dividends.

1-27

P1

Transaction Analysis

Provided $3,000 of consulting services and

received payment immediately.

1-28

P1

Transaction Analysis
Paid salaries of $800 to employees.

Remember that expenses decrease equity.

1-29

P1

Transaction Analysis

Dividends of $500 are paid to shareholders.

Remember that dividends decrease equity.

1-30

P2

Financial Statements
Lets prepare the Financial Statements reflecting
the transactions we have recorded.
1. Income Statement
2. Statement of Retained Earnings
3. Balance Sheet
4. Statement of Cash Flows

1-31

P2

Income Statement
Net income is the
difference
between
Revenues and
Expenses.
The income statement describes a
companys revenues and expenses along
with the resulting net income or loss over a
period of time due to earnings activities.
1-32

P2

Statement of Retained Earnings

The net income of
$2,200 increases
Retained Earnings by
$2,200.

1-33

P2

Balance Sheet
The
TheBalance
BalanceSheet
Sheetdescribes
describes
aacompanys
companysfinancial
financialposition
position
at
ataapoint
pointin
intime.
time.

1-34

P2

Statement of Cash Flows

1-35

A2

Return on Assets (ROA)

Return on
Net income
=
assets
Average total assets

ROA
ROA is
is aa profitability
profitability
measure.
measure.

1-36

End of Chapter 1

1-37