© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Chapter One An Introduction to Accounting

1-2 LO 1 Explain the role of accounting in society. LO 1

1-3 Role of Accounting in Society Accounting provides information that is useful in answering questions about resource allocation. Should I invest money in IBM or General Motors?

1-4 Market-Based Allocations A market is a group of people or entities organized to exchange things of value.

1-5 Market-Based Allocations Consumers Conversion Agents Resource Owners Resource users Transform resources into desirable products Control the distribution of resources

1-6 Market-Based Allocations Common terms for the added value created in the transformation process: ProfitIncomeEarnings

1-7

1-8 Financial Resources Conversion agents need financial resources (money) to establish and operate their businesses. InvestorsCreditors

1-9 Liquidation If a business fails, any resources (assets) it still has are returned to the resource providers (investors and creditors). The process of dividing remaining assets and returning them to resource providers is called business liquidation.

1-10 Physical Resources In their most primitive form, physical resources are called natural resources. Owners of physical resources seek to sell those resources to profitable businesses which are able to pay higher prices and make repeat purchases.

1-11 Labor Resources Labor resources include both intellectual and physical labor. Workers seek relationships with businesses that have high earnings potential because these businesses are better able to pay high wages.

1-12 Types of Accounting Information Financial Accounting Focused on the needs of external users Managerial Accounting Focused on the needs of internal users

1-13 Non-business Resource Allocation Not all entities allocate resources based on profitability. Organizations that are not motivated by profit are called not-for-profit entities. Government, foundations, religious groups, the Peace Corps, and various benevolent organizations allocate resources based on humanitarian concerns.

1-14 Non-business Resource Allocation Not all entities allocate resources based on profitability. Organizations that are not motivated by profit are called not-for-profit entities. Other organizations allocate resources to support art, music, dance, and theater.

1-15

Careers in Accounting 1-16 Private Accounting Certified Management Accountant Certified Internal Auditor Public Accounting Certified Public Accountant Audit services Tax services Consulting services

1-17 Measurement Rules Accountants establish measurement and reporting rules that businesses use to facilitate communication. Generally Accepted Accounting Principles

1-18 LO 2 Distinguish among the different accounting entities involved in business events. LO 2

1-19 Reporting Entities Financial accounting reports disclose the financial activities of particular individuals or organizations described as reporting entities. Each entity is treated as a separate reporting unit. Business Owner Bank

1-20 LO 3 Name and define the major elements of financial statements. LO 3

1-21 Financial Statements Balance Sheet Income Statement Statement of Changes in Equity Statement of Cash Flows

1-22 Elements of Financial Statements The elements represent broad categories. 1.Assets 2.Liabilities 3.Equity 4.Contributed Capital 5.Revenue 6.Expenses 7.Distributions 8.Net Income 9.Gains 10.Losses We will discuss elements 1-8 in this chapter. We will save elements 9 and 10 for a later chapter.

1-23 Elements of Financial Statements 1.Assets—Cash, Equipment, Buildings, Land 2.Liabilities 3.Equity 4.Contributed Capital 5.Revenue 6.Expenses 7.Distributions 8.Net Income 9.Gains 10.Losses Subclassifications of the elements are frequently called accounts. Accounts are reported in the financial statements.

1-24 LO 4 Describe the relationships expressed in the accounting equation. LO 4

1-25 Accounting Equation Claims on the assets are from two sources: 1.Creditors (liabilities) 2.Investors or owners (equity).

1-26 Accounting Equation

1-27 Accounting Equation Common Stock + Retained Earnings

1-28 LO 5 Record business events in general ledger accounts organized under an accounting equation. LO 5

1-29 Recording Business Events Under the Accounting Equation Accounting Event Transaction 1.Source 2.Exchange 3.Use

1-30 Asset Source Transactions Businesses obtain assets from three sources: 1.Owners 2.Creditors 3.Profitable Operations

1-31 Event 1: Rustic Camp Sites (RCS) was formed on January 1, 2008, when it acquired $120,000 cash from issuing common stock. 1.RCS increases assets (cash). 2.RCS increases stockholders’ equity (common stock). Asset Source Transaction Double-Entry Bookkeeping Recorded Twice

1-32 Event 2: RCS acquired an additional $400,000 of cash by borrowing from a creditor. 1.RCS increases assets (cash). 2.RCS increases liabilities (notes payable). Asset Source Transaction

1-33 Event 3: RCS paid $500,000 cash to purchase land. 1.RCS decreases assets (cash). 2.RCS increases assets (land). Asset Exchange Transaction

1-34 Event 4: RCS obtained $85,000 cash by leasing campsites to customers. 1.RCS increases assets (cash). 2.RCS increases stockholders’ equity (retained earnings). Asset Source Transaction revenues

1-35 Event 5: RCS paid $50,000 cash for operating expenses such as salaries, rent, and interest. 1.RCS decreases assets (cash). 2.RCS decreases stockholders’ equity (retained earnings). Asset Use Transaction expenses

1-36 Event 6: RCS paid $4,000 in cash dividends to its owners. 1.RCS decreases assets (cash). 2.RCS decreases stockholders’ equity (retained earnings). Asset Use Transaction dividends

1-37 LO 6 Explain how the historical cost and reliability concepts affect amounts reported in the financial statements. LO 6

1-38 Event 7: The land that RCS paid $500,000 to purchase had an appraised market value of $525,000 on December 31, Historical Cost Concept Requires that most assets be reported at the amount paid for them (their historical cost) regardless of increases in market value. Reliability Concept Information is reliable if it can be independently verified. Appraised values are opinions and will vary from appraiser to appraiser.

1-39 LO 7 Classify business events as asset source, use, or exchange. LO 7

1-40 Recap: Types of Transactions The described transactions have been classified into one of three categories: Asset Source Asset Exchange Asset Use Increase assets, increase claims on assets Increase one asset, decrease another asset Decrease assets, decrease claims on assets

1-41 Summary of Transactions Now, let’s prepare the financial statements for RCS using the data presented above.

1-42 LO 8 Use general ledger account information to prepare four financial statements. LO 8

1-43 Preparing Financial Statements Net Loss Accounting Period Matching Concept results when expenses exceed revenues. Revenues exceeded expenses. Income is measured for a span of time called the { Revenues are matched to expenses.

1-44 Preparing Financial Statements

1-45 Preparing Financial Statements equal Assets are displayed in order of liquidity.

1-46 Operating Investing Financing Preparing Financial Statements

1-47 The Closing Process Transfers net income (or loss) and dividends to Retained Earnings. Establishes zero balances in all revenue, expense, and dividend accounts.

248 Temporary accounts track financial results for a limited period of time. Temporary and Permanent Accounts Revenues Expenses Dividends Temporary Accounts Permanent Accounts Assets Liabilities Equity Permanent accounts track financial results from year to year.

1-49 LO 9 Record business events using a horizontal financial statements model. LO 9

1-50 Horizontal Financial Statements Model

1-51 Real World Financial Reports Service Businesses Merchandising Businesses Manufacturing Businesses

1-52 Annual Reports (1)Financial Statements (2)Notes (3)Auditor’s Report –Chapter 2 (4)Management’s Discussion and Analysis (MD&A)— Chapter 4 Traditionally, large companies have distributed expensive annual reports with many color photographs. Increasingly, however, companies are issuing more modest annual reports or are simply distributing their 10-K reports.

1-53 Special Terms in Real-World Reports The financial statements of real-world companies include numerous items relating to advanced topics that are not covered in introductory accounting textbooks. However, we encourage you to look for annual reports in the library, from your employer, or on the Internet. The best way to learn accounting is to use it.

1-54 LO 10 Appendix Explain the price- earnings ratio. LO 10

1-55 Price-Earnings Ratio (Appendix) Price-Earnings Ratio Market Price Per Share Earnings Per Share = A higher price-earnings ratio means that investors are willing to pay a premium for a company’s stock because of optimistic future growth prospects. Earnings per share (EPS), in its simplest form, is computed by dividing the company’s net income by the number of shares of common stock outstanding.

1-56 Measuring Growth Through Percent Analysis Alternative Year Earnings – Base Year Earnings Base Year Earnings The following earnings information was taken from the 2008 and 2009 income statements of Cammeron, Inc. and Diller Enterprises.

1-57 End of Chapter One