ACG 2021 Financial Accounting

Chapter One: The Financial Statements

The Accounting System

What is accounting
Been in place for hundreds of years
1494 Luca Pacioli's Summa de Arithmetica Geometria Proportionalita (A Review of Arithmetic, Geometry and Proportions)
First written description of double-entry accounting

Incan khipus
cryptic assemblages of string and knots
May have been used for record-keeping (i.e. accounting) Gary Urton and Carrie Brezine

Annotated Khipu on Flickr

System
Of recording business transactions

Language
Whether knots Debits or Credits written in a journal Digital values stored on a computer Weve been accounting for many, many years

Information System Model

The Accounting System

An Information System
Inputs to the system are business events
Sales Purchases
Inventory (things to re-sell, things to use in building), buildings Payroll

Processing takes place in the various Journals and General Ledger where transactions are stored Financial Statements are the Outputs and represent Summary Information
Income Statement Statement of Retained Earnings Balance Sheet Cash Flows

Accounting Information System

Procedures, Techniques and Resources to
Collect & Disseminate Relevant Business Information to Interested Users
Individuals (Management) Investors & Creditors Taxing Authorities Non-Profit Organizations

Accounting (The Language of Business) Is...

The process of identifying, measuring, and communicating economic information (via reports) to permit informed judgments and decisions by users of the information.
Balance Sheet Resources Income Statement Results of Operations Cash Flow Management of Asset

Language Dialects
Financial Accounting Managerial Accounting Tax Accounting Governmental (non-profit) Accounting

ACG 2021
Who are we Accounting for: Business Forms And Accounting Rules and Assumptions

Accounting Assumptions
Business activity occurs via distinct entities
Sole Proprietorship Partnerships Corporations

Business activity is conducted via measurable, observable transactions Transactions can be described using standard units of measurement ($s) in accounts (Valuation)

Forms of Business Organization

Proprietorship
Has a single owner Proprietor is personally liable
for debts of the business

Not a separate legal entity For accounting, the proprietorship is a separate entity from the proprietor

Forms of Business Organization

Partnerships
Two or more partners are co-owners Each partner can be liable for all the debts of the partnership Not a separate legal entity For accounting, the partnership is a separate entity from its partners

Forms of Business Organization

Corporations
May have many owners (stockholders) Stockholders are not personally liable for debts of the business Is a separate legal entity Stockholders elect a Board of Directors to appoint corporate officers and set policies

Accounting Guidelines
Formulated by the Financial Accounting Standards Board (FASB) Generally Accepted Accounting Principles (GAAP)
The Entity Concept
A business is separate & distinct from its owners

The Reliability Principle

Accounting records are based on the most objective evidence available

The Historical Cost Principle

$s are recorded at time of transaction (actual cost) actual
$s that a willing buyer paid a willing seller Not some point in the future

The Going-Concern Principle

The Entity will not go Out-of-Business

The Stable-Monetary-Unit Concept

the monetary units ($s) purchasing power is stable (ignores inflation)

ACG 2021 Financial Accounting

The Accounting Equation Assets = Liabilities + Owners Equity

The Accounting Equation

Assets = Liabilities + Owners Equity

Economic Resources

Claims against Economic Resources

Assets
Economic resources (value, $s) Owned and Controlled by business entity Expected to produce a benefit in the future
Cash Investments Accounts Receivable Inventory Buildings, Equipment, Gold Mines, Patents

Liabilities
Economic obligations (debt) of a business
Accounts Payable Notes Payable Accrued Expenses:
Payroll that we owe Taxes that we owe Rent, Insurance, etc. that we owe

Money we borrowed and of course owe

Claims by Creditors
Convey Assets
This means that the creditor expects an asset (most often cash) be given for what is owed

Perform Service
This means that the creditor expects a service (like prepare a tax return, or provide rental retail space) be given for what is owed

Owners Equity
The owners claim on the entitys assets

Capital (for Proprietorship or Partnership) Stockholders equity (for Corporation)

Shares of Stock

Net assets

Assets liabilities = owners equity

Stockholders Equity
For a corporation, stockholders equity is divided into two main categories.
Paid in capital
The amount that investors have given to the corporation
In exchange for shares of stock

Retained earnings
The amount of Earnings the company has either earned (profit) or lost over time The amount of dividends that have been paid to investors

The Accounting Equation Expanded

Assets = Liabilities + Owners Equity Replace Owners Equity with:
Paid-in capital - amount invested by its owners common stock
Increases Owners Equity

Retained earnings - amount earned by incomeproducing activities and kept for use in the business
Dividends distributions of assets to stockholders
Decreases Retained Earnings

Assets = Liabilities + Paid-in capital + Retained earnings

The Accounting Equation

Retained Earnings accumulate Revenues and Expenses of an Organization and Dividends that have been paid
Revenues Sales of Product or Services
increases Retained Earnings from delivering goods or services to customers
Measured by corresponding increase in Asset received as payment

Expenses goods or services Consumed from Revenue Generation

decreases Retained Earnings that result from operations
Measured by historical cost of assets given up in the sale or consumed to make the sale

Components of Retained Earnings

Revenues for the period

Expenses for the period

End of Start of = the period the period Beginning Net income Ending + Dividends balance of (or Net loss) = balance of for the or retained for the retained period earnings period earnings

Accounting Equation Expanded (again)

Assets = Liabilities + Paid-in Capital Dividends + Revenue Expenses Retained Earnings

Transactions
A simultaneous exchange between one accounting entity and another accounting entity:
Customers Suppliers Employees Owners

Each party Gives and Receives something of value ($s)

Chapter 1
Exercise 1-4

ACG 2021 Financial Accounting

The Financial Statements

The Financial Statements

Balance Sheet Income Statement Statement of Retained Earnings Statement of Cash Flows

Balance Sheet

Rank Place Situation Standing

Assets used to reach company objectives $s represent One Particular Point in Time
Snapshot

What is the companys financial position at the end of a period?

Assets = Liabilities + Owners Equity

Balance Sheet
Assets appear in order of Liquidity
Easily Turned into Cash

Liabilities appear in order in which they will be paid

Within 1 year or less Greater then 1 year

Why?
So Creditors can quickly ascertain if a company has enough Cash to pay back what is owed So Creditors can quickly ascertain what collateral a company has against possible loans that might be made

Stockholders Equity shows the amount contributed by investors & the amount of Income retained by the company
Dividends are paid out of this retained amount (but NOT with it)

Income Statement
Presents information about profitability How well did the company perform during the period?
Revenue Amount paid or promised to pay for goods or services of the firm, increase of assets Expenses Costs of providing goods or services to the customer, using up of assets

Temporary (periodic) Retained Earnings accounts Revenues Expenses Net Income (Loss)

Statement of Retained Earnings

The portion of a firms Net Income retained by the business Why did the company's retained earnings change during the year? Beginning retained earnings +Net income or (-Net loss) - Dividends Ending retained earnings

Statement of Cash Flows

Changes to Cash during a specific time period How much cash did the company generate and spend during the year? Operating cash flows + Investing cash flows + Financing cash flows Increase (decrease) in cash

Information Reported in the F/S

Relationships Among the Financial Statements

ABC Company Income Statement Year Ended December 31, 2006 Revenues $700,000 Expenses 670,000 Net income $ 30,000

Relationships Among the Financial Statements

ABC Company Statement of Retained Earnings Year Ended December 31, 2006 Beginning retained earnings $180,000 Net income 30,000 Cash dividends (10,000) Ending retained earnings $200,000

Relationships Among the Financial Statements

ABC Company Balance Sheet December 31, 2006 Assets Cash All other assets Total assets Liabilities Total liabilities Stockholders equity Common stock Retained earnings Other equity Total liabilities and stockholders equity 40,000 200,000 (60,000) $300,000 $120,000 $ 25,000 275,000 $300,000

Relationships Among the Financial Statements

ABC Company Statement of Cash Flows Year Ended December 31, 2006 Net cash provided by operating activities$ 90,000 Net cash used for investing activities (110,000) Net cash provided by financing activities 40,000 Net increase in cash 20,000 Beginning cash balance 5,000 Ending cash balance $ 25,000