****** McGraw-Hill/Irwin Understanding Business, 8e © 2008 The McGraw-Hill Companies, Inc., All Rights Reserved. Nickels McHugh McHugh ** Understanding Financial Information and Accounting 17 CHAPTER * **

****** 17-2 Importance of Accounting Information Definition- AccountingDefinition- Accounting AudiencesAudiences ManagersManagers GovernmentGovernment Investors, Suppliers & CreditorsInvestors, Suppliers & Creditors

****** 17-3 The Accounting System

****** 17-4 The Influence of Accounting Information Managers- Financial reports pinpoint problems/opportunitiesManagers- Financial reports pinpoint problems/opportunities Government- assists with tax collectionGovernment- assists with tax collection Investors, Suppliers, & Creditors- provides a means to analyze businessInvestors, Suppliers, & Creditors- provides a means to analyze business

****** 17-5 Areas of Accounting Managerial AccountingManagerial Accounting Inside OrganizationInside Organization C.M.A.C.M.A. Tax AccountingTax Accounting Government & Not-for-profit AccountingGovernment & Not-for-profit Accounting Financial AccountingFinancial Accounting Annual ReportAnnual Report Private AccountantPrivate Accountant Public AccountantPublic Accountant C.P.A.C.P.A. AuditingAuditing

****** 17-6 Top Business Uses of Accountants

****** 17-7 How to Read a Corporate Annual Report Read management’s discussion of changes in operations. Try to identify strengths or weaknesses. Review the firm’s consolidated balance sheet. (Its assets, liabilities, and owners’ equity.) Analyze the Income Statement. Look beyond the year. (Sales drops can spell trouble.) Review the statement of changes in cash flows. Review auditor’s opinion.

****** 17-8 Public AuditingAuditing Tax Consulting & ComplianceTax Consulting & Compliance Management ConsultingManagement ConsultingPrivate Management AccountingManagement Accounting Government AccountingGovernment Accounting AcademiaAcademia Types of Accountants

****** 17-9 “Cooking the Books” Early Recognition of RevenueEarly Recognition of Revenue Late Recognition of ExpenseLate Recognition of Expense Inadequate Reserves for Bad Debts, Returns, & LiabilitiesInadequate Reserves for Bad Debts, Returns, & Liabilities Changing Inventory Valuation Methods- 1 Time Boost to IncomeChanging Inventory Valuation Methods- 1 Time Boost to Income Phony Transactions With PartnershipsPhony Transactions With Partnerships Courtesy of B. Lilly- De Anza College

****** Tips To Be Ahead of Sneaky Accountant Tricks 1.Who’s who 2.Pick out the bad apples 3.Don’t fall for rapid refund 4.Know their loyalty 5.Watch what you sign Source: CNNMoney.com, March 17, 2006

****** Ways to Avoid More Enrons 1.Bring hidden liabilities back onto the balance sheet 2.Highlight the things that matter 3.List the risks and assumptions built into the numbers 4.Standardize operating income 5.Provide aid in figuring free-cash flow Source: Business Week, February 18, 2002

****** Sarbanes-Oxley Timeline EffectiveRequirements July 30, 2002 Prohibit personal loans to officers/directors. CEOs/CFOs return incentive-based compensation after erroneous financial report. August 29, 2002 CEOs/CFOs must certify annual/quarterly reports. Officers must make certifications regarding company’s internal controls. January 26, 2003 Responsibilities for attorneys/audit firms increased. Disclosure requirements for off- balance sheets transactions tightened. April 26, 2003 Audit committees must: be independent directors, be responsible for compensation & oversight of certifying accountants.

****** Not-for-Profits’ Policies Due to Sarbanes-Oxley Source: USA Today

****** How can Sarbanes-Oxley be Improved? Source: USA Today

****** Steps to Control Accounting Practices Source: USA Today, “Snapshots”, Section B, pg. 1, March 26, 2003

****** Bookkeeping vs. Accounting Bookkeeping Start of AccountingStart of Accounting Record/JournalizeRecord/JournalizeAccounting AnalyzeAnalyze RecommendRecommend

****** Steps In The Accounting Cycle Analyze Source Documents Record Transactions in Journals Post Journal Entries to Ledger Take a Trial Balance Prepare Financial Statements Analyze Financial Statements

****** Computers & Accounting Tool Not Decision MakerTool Not Decision Maker SimplificationSimplification Accounting PackagesAccounting Packages Up-To-the-Minute InformationUp-To-the-Minute Information Less MonotonyLess Monotony

****** Financial Statements Balance Sheet- Statement of Financial PositionBalance Sheet- Statement of Financial Position Income Statement- Statement of Revenues & ExpensesIncome Statement- Statement of Revenues & Expenses Statement of Cash Flows – Statement of Cash Receipts & DisbursementsStatement of Cash Flows – Statement of Cash Receipts & Disbursements

****** Accounting Equation Assets Liabilities + Owner’s Equity Owned Owed + Owner’s Claims = = $826,000 = $613,000 + $213,000 $213,000 Very Vegetarian Company

****** Very Vegetarian’s Balance Sheet (Assets) Period ending 12/31/07 Assets Current Assets Cash$ 15,000 Accounts Receivable 200,000 Notes Receivable 50,000 Inventory 335,000 Total Current Assets$600,000 Fixed Assets Land$ 40,000 Buildings (net) 110,000 Equipment & Vehicles (net) 40,000 Furniture & Fixtures (net) 16,000 Total Fixed Assets$206,000 Intangible Assets Goodwill$ 20,000 Total Intangible Assets$ 20,000 Total Assets$826,000

****** Very Vegetarian’s Balance Sheet (Liabilities & Owner’s Equity) Period ending 12/31/07 Liabilities & Owners’ Equity Current Liabilities Accounts Payable$ 40,000 Notes Payable 8,000 Accrued Taxes & Salaries 240,000 Total Current Liabilities$288,000 Long-term Liabilities Notes Payable$ 35,000 Bonds Payable 290,000 Total Long-term Liabilities$325,000 Total Liabilities$613,000 Owners’ Equity Common Stock (1M shares) $100,000 Retained Earnings 113,000 Total Owners’ Equity$213,000 Total Owners’ Equity$213,000 Total Liabilities & Owners’ Equity$826,000

****** Very Vegetarian Income Statement Period Ending 12/31/07 Revenue Net Sales$ 700,000 Cost of Goods Sold Beginning Inventory $ 200,000 Net Purchases $ 440,000 Cost of Goods $ 640,000 Less: Ending Inventory - $ 230,000 Less: Cost of Goods Sold - $ 410,000 Less: Cost of Goods Sold - $ 410,000 Gross Profit (Gross Margin)$ 290,000

****** Very Vegetarian’s Income Statement (cont’d) Gross Profit $290,000 Operating Expenses Selling Expenses Salaries$ 90,000 Advertising & Supplies$ 20,000 Total Selling Expenses$ 110,000 General Expenses Office Salaries$ 67,000 Depreciation$ 1,500 Insurance$ 1,500 Rent$ 28,000 Utilities$ 12,000 Miscellaneous$ 2,000 Total General Expenses$ 112,000 Less: Total Operating Expenses - $ 222,000 Net Income (Profit) Before Taxes$ 68,000 Less: Income Tax Expenses -$ 19,000 Net Income (Profit) After Taxes$ 49,000

****** Very Vegetarian’s Statement of Cash Flow Net Cash Flow from Operations$ 52,000 Net Cash Flows from Investments ( 6,000) Net Cash Flow from Financing (19,000) Net Change in Cash & Equivalents$ 27,000 Beginning Cash Balance ( 2,000) Ending Cash Balance$ 25,000 =========

****** Liquidity Ratios Current Assets Current Liabilities Quick (Acid-Test) Ratio Cash + Marketable Securities + Receivables Current Liabilities Current Ratio

****** Very Vegetarian Current Ratio $600,000$288,000=2.08 $265,000$288,000 =0.92 Quick (Acid-Test) Ratio

****** Leverage Ratios Total Liabilities Owners’ Equity Debt-to-Owners’ Equity Ratio $613,000$213,000 =287%

****** Profitability Ratios Net Income After Tax Total Owners’ Equity Basic Earnings Per Share Net Income After Taxes Number of Common Stock Shares Outstanding Return on Equity Net Income Net Sales Return on Sales Profitability = Operating Success

****** Profitability Ratios Earnings per Share$ 49,000 = $.049 $1,000,000 $1,000,000 Return on Sales $ 49,000 = 7% $700,000 $700,000 Return on Equity $ 49,000 = 23% $213,000 $213,000

****** Activity Ratios Inventory Turnover $410,000 = 1.9 $215,000 $215,000 Cost of Goods Sold Average Inventory Inventory Turnover