Chapter 1 – Accounting

The Link Between Business and Accounting

Learning Objectives

Define accounting, why important?Users of accountingFinancial Statement standardsFour Financial StatementsAnalysis!Risks! How to Control!

Let’s talk about Apples…

No, Not that kind…..

Apple Computer!

How do they do it?

The Operating Cycle for Apple…

Accounting is the process of

Identifying Measuring and Communicating

Financial Information to various users, both inside and outside of the company

Much of this information is communicated with Financial Statements

The Basic Financial Statements

Balance Sheet Income Statement Statement of Changes in Owners’ Equity Statement of Cash FlowsThe Financial Statements are based on a

broad set of guidelines called Generally Accepted Accounting Principles (GAAP)

Setting the Guidelines for Financial Reporting

Internal Users use Managerial Accounting Statements

Who are the internal users?What information do they look for??

External Users use Financial Accounting

Who are the external users?What information do they look for??

Business—what type? Dim sum!

An EXERCISE. . .

The Balance Sheet

Describes the financial position of a company at a specific point in time

Three Components of the Balance SheetAssetsLiabilitiesOwners’ Equity

Assets

Things of Value, resourcesOwned by the CompanyAs a result of past transactionsWill be used to generate future revenues

Liabilities

Amounts the business owes to creditorsClaims against the Assets

Owners’ Equity

Amounts the business owes to its owners

Residual claim against the Assets After the creditors’ claims have been

satisfied

Assets - Liabilities = Owners’ Equity

Want more Equity?

You’ll need to…..

Invest More – Increases the Contributed Capital portion of Equity

Earn More – Running a successful business increases the Retained Earnings portion of Equity

The Accounting Equation

Assets = Liabilities + Owners’ Equity

States that all of the assets of the business are claimed by the creditors and/or the owners

This is where the Algebra comes in

Apple’s Balance Sheet

The Accounting Equation

Is also called the Balance Sheet Equation

The Balance Sheet

Total Assets of $8,050

$2,974 of the Assets are claimed by the creditors

$5,076 of the Assets are claimed by the shareholders

The owners invested $2,514M

And the investment has grown to $5,076M

Think of it as an investment….

But the Balance Sheet doesn’t tell the whole story….

The Balance Sheet describes what we have

But not how we got it!

Introducing…..The Income Statement

What do you think THIS statement is?

The Income Statement tells how the company’s performance changed the net assets….

Revenues are transactions which resulted in an inflow of net assets

Expenses are transactions which resulted in an outflow of net assets

Revenues

The Amount Earned from Sales or Services

During the time period described at the top of the Income Statement

Expenses

The Costs incurred to generate Revenues

During the time period described at the top of the Income Statement

The Bottom Line

If Revenues Exceed Expenses in the current period, it’s called “Net Income”

If Expenses Exceed Revenues in the current period, it’s called “Net Loss”

Think of it as a Business Sink!

Net Income means that Assets are flowing into the Business (Revenues)

Faster than they’re flowing out of the business (Expenses)

The Asset Level in the Sink is Rising!

Net Loss

Net Loss means that the assets are flowing out of the business (Expenses)

Faster than they’re flowing into the business (Revenues)

The Asset Level in the Sink is Dropping!

To Whom do these new Assets belong?

To the Stockholders!

Their Claim against the assets of the Corporation has increased by $276 Million

These assets will be retained by the corporation until they are returned to the stockholders as dividends

This can be seen on the Statement of Retained Earnings

The “Bottom Line”

from the Income

Statement

Is transferred to the Statement of

Retained Earnings

Similarly…..

The Ending Retained Earnings

balance from the

Statement of R/E

Is transferred to the Balance Sheet

The Statement of Cash Flows

Takes a more limited, but very important look, at a single asset…

Cash!

The Statement of Cash Flows

Categorizes Cash Inflows and Outflows during a specific period of time into three categories:

Operating

Investing

Financing

Operating Activities

Cash Receipts and Cash Disbursements

As a result of day-to-day operation of the business

Investing Activities

Cash Receipts and Cash Disbursements

From the purchases and sales of long-term assets

Financing Activities

Cash Receipts and Cash Disbursements

From the company’s funding sources – its long-term creditors and stockholders

Cash collected from the issuance of stock or long-term liabilities

Cash dividends paid, or payments to retire long-term debt

Statement of Cash Flows

Financial Statement Analysis

Is the process of analyzing the information in the four financial statements and the notes to the financial statements

To evaluate past performance and

Predict future performance

Risk and Rewards

Every business takes risks.

It is important to be able to identify and evaluate the risks

Controls must be implemented to minimize the risks and

Improve the opportunity for rewards

End – Chapter 1

The Process of ….

Getting Cash

Using Cash to purchase inputs

Changing those inputs into products or services, and

Providing the product or service to customers and eventually getting cash back

Is Called an Operating Cycle

Managerial Accounting is concerned with satisfying the needs of internal users

Internal Users

Managers Sales and MarketingInternal AuditorsProduction

Supervisors

Financial Accounting is concerned with satisfying the needs of External Users

External Users

Government CreditorsPotential

Investors

Vendors,

Customers

and Employees

If you’ve ever applied for a loan…

You’ve already prepared a Balance Sheet!

The bank asks you for a listing of all of your assets

And a listing of all of your liabilities

The difference between these amounts is your net worth, or Equity!

Your Personal Balance Sheet

Examples of Assets

Cash

Short-Term Investments

Accounts Receivable

Supplies

Land

Equipment

Examples of Liabilities

Accounts Payable

Wages Payable

Notes Payable

Stockholders’ Equity

The claims by the stockholders result from

Contributed Capital – assets stockholders contributed in exchange for shares of stock

Retained Earnings – cumulative profitability of the corporation in excess of dividends