The function of education is to teach one to think intensively and to think critically... Intelligence plus character – that is the goal of true education. — Martin Luther King Jr., American civil rights leader (1929-1968)

THE PURPOSE OF ACCOUNTING TO PROVIDE: FINANCIAL INFORMATION ABOUT A BUSINESS TO INDIVIDUALS AND ORGANIZATIONS

Forms of Business Organization Sole proprietorship Partnership Corporation

Sole Proprietorship Business owned by one person Simple to establish Owner controlled Tax advantages Owner personally liable Financing difficult

Partnership Two or more owners Simple to establish Shared control Broader skills & resources Tax advantages Personal liability

Corporation Separate legal entity owned by stockholders Easy to transfer ownership Greater capital raising potential Lower legal liability Unfavorable tax treatment

THE ACCOUNTING PROCESS Accounting Is A System Of: Gathering financial information About a business And reporting it to users It is accomplished in 6 steps:

STEP ONE ANALYZING Looking at events that have taken place and thinking about how they affect the business

STEP TWO RECORDING Entering financial information about events into the accounting system

STEP THREE CLASSIFYING Sorting and grouping similar items together

STEP FOUR SUMMARIZING Bringing the various items of information together to determine a result

STEP FIVE REPORTING Giving the results to interested parties

STEP SIX INTERPRETING Deciding the meaning and importance of the information in various reports

Study Objectives of Chapter 1 Understand the content and purpose of each of the financial statements. Clarify the meaning of assets, liabilities, and stockholders’ equity. Learn what the basic accounting equation tells us about a business. Describe the components that supplement the financial statements in an annual report.

Study Objectives of Chapter 1 Identify the users and uses of accounting information. Explain the 3 principal business activities that affect cash.

Define some terms: Sales Revenue Expense Asset Liability Owner’s Equity

Content and Purpose of Financial Statements How would you answer the question, “How is your business doing?” Businesses tell users how they are doing through four financial statements:

Four Financial Statements Income Statement Retained Earnings Statement Balance Sheet Statement of Cash Flows Over Time Over Time At some point in Time Over Time

Income Statement Did you make any money??? Summarizes revenues and expenses for period: month, quarter, year. If revenue > expense = Net Income.

Do this statement first! Income Statement Do this statement first!

Retained Earnings Statement Shows changes in retained earnings for period: month, quarter, year Beginning balance Add Net Income from income statement. Deduct Dividends Ending balance

Retained Earnings Statement Do this statement second!

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!

From Retained Earnings Statement Balance Sheet From Retained Earnings Statement

Statement of Cash Flows Provides information about cash receipts and cash payments Summarizes for period: month, quarter, year. Cash effects of operating, investing, and financing activities.

Statement of Cash Flows 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!

Statement of Cash Flows.. Agrees with Balance Sheet

Three Business Activities that affect Cash Operating Investing Financing

Operating Activities Revenues are the increases in assets resulting from the sale of a product or service Expenses are the cost of assets consumed or services used in generating revenue. If revenue > expense = Net Income If revenue < expense = Net Loss!

Operating Activities What the business does to make money; Selling goods Providing services Manufacturing Cost of Sales Advertising Paying employees Paying utilities

Investing Activities Investments in the company’s future (Obtaining resources or assets to operate the business) Land Buildings Vehicles Computers Furniture Equipment

Financing Activities – Raising money to finance the business Borrowing creates liabilities Bank loans Debt securities Goods on credit or payables Selling stock creates stockholders’ equity

Statement of Cash Flows To be continued in chapter 13.

Users of Financial Information Internal vs. External

Assets Resources owned by the business to be used to generate future revenue Cash Accounts receivable Inventories Furniture and fixtures Equipment Supplies

Liabilities Obligations or debts of the business Notes payable Accounts payable Interest payable Salaries payable Unearned revenue

Stockholders’ Equity Ownership claims on assets Paid-in capital Common stock Retained earnings

Basic Accounting Equation Assets = Liabilities + Stockholders’ Equity

Question 1 Which is not one of the three forms of business organization? a. Sole proprietorship. b. Creditorship. c. Partnership. d. Corporation.

Question 2 Which is an advantage of corporations relative to partnerships and sole proprietorships? a. Lower taxes. b. Harder to transfer ownership c. Reduced legal liability for investors. d. Most common form of business organization.

Question 3 Which is not one of the three primary business activities that affect cash? a. Financing. b. Operating. c. Advertising. d. Investing.

Question 4 Which of the following is not a correct representation of the accounting equation? a. Assets = Liabilities + Stockholders’ Equity b. Assets - Liabilities = Stockholders’ Equity c. Assets + Stockholders’ Equity = Liabilities d. Assets - Stockholders’ Equity = Liabilities

Question 5 Using the accounting equation, answer the following question. If Liabilities = $10,000 and Stockholders’ Equity = $20,000 Then Assets =

Question 6 Using the accounting equation, answer the following question. If Assets = $75,000 And Liabilities = $35,000 Then Stockholders’ Equity =

ANSWERS

Question 1 Which is not one of the three forms of business organization? a. Sole proprietorship. b. Creditorship. c. Partnership. d. Corporation.

Question 2 Which is an advantage of corporations relative to partnerships and sole proprietorships? a. Lower taxes. b. Harder to transfer ownership c. Reduced legal liability for investors. d. Most common form of business organization.

Question 3 Which is not one of the three primary business activities that affect cash? a. Financing. b. Operating. c. Advertising. d. Investing.

Question 4 Which of the following is not a correct representation of the accounting equation? a. Assets = Liabilities + Stockholders’ Equity b. Assets - Liabilities = Stockholders’ Equity c. Assets + Stockholders’ Equity = Liabilities d. Assets - Stockholders’ Equity = Liabilities

Question 5 Using the accounting equation, answer the following question. If Liabilities = $10,000 and Stockholders’ Equity = $20,000 Then Assets = $30,000 = $10,000 + $20,000 $30,000

Question 6 Using the accounting equation, answer the following question. If Assets = $75,000 And Liabilities = $35,000 $40,000 $75,000 = $35,000 + $40,000 Then Stockholders’ Equity =

Supplements to the Financial Statements in an Annual Report Management Discussion and Analysis Notes to Financial Statements Auditor’s report

Management’s Discussion and Analysis covers three items: Liquidity Capital resources Results of operations

Management’s Discussion and Analysis

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

Notes to Financial Statements

Auditor’s Report Certified Public Accountant – CPA Auditor (CPA) conducts independent examination of financial statements Fair representation? Follow generally accepted accounting principles (GAAP)? Unqualified opinion

Auditor’s Report

Problem: CSU Corporation CSU begins on Jan. 1, 2007 For year ended Dec. 31, 2007, prepare Income statement Retained earnings statement Balance sheet

Problem: CSU Corporation Action step 1: Report the revenues & expenses for a period of time, Income Statement

Problem: CSU Corporation Action step 1: Report the revenues & expenses for a period of time, Income Statement

Problem: CSU Corporation Create the heading Name of the company CSU Corporation Income Statement For the Year Ended December 31, 2007 Name of the statement Period of time

Problem: CSU Corporation Income Statement For the Year Ended December 31, 2007 Revenues Service revenue $17,000 List the revenues Use dollar signs to denote U.S. currency

Problem: CSU Corporation Income Statement For the Year Ended December 31, 2007 Revenues Service revenue $17,000 Expenses Rent expense $9,000 Insurance expense 1,000 Supplies expense 200 Total expenses 10,200 ________ List the expenses & underline sub-totals

Problem: CSU Corporation Income Statement For the Year Ended December 31, 2007 Revenues Service revenue $17,000 Expenses Rent expense $9,000 Insurance expense 1,000 Supplies expense 200 Total expenses 10,200 Net Income $ 6,800 Calculate net income: revenues - expenses ________ ________ ________ ________

Problem: CSU Corporation Action step 2: Show amounts and causes of changes in retained earnings Use Net Income from Income Statement Dividends

Problem: CSU Corporation Retained Earnings Statement For the Year Ended December 31, 2007 Retained earnings, January 1 $ 0 Add: Net income 6,800 6,800 Less: Dividends 600 Retained earnings, Dec. 31 $ 6,200 ______

Problem: CSU Corporation Action step 3: Present assets and claims to those assets at a specific point in time on the Balance Sheet Use $6,200 Retained earnings from previous statement!