FINANCIAL ACCOUNTING AN INTRODUCTION TO CONCEPTS, METHODS, AND USES 12th Edition FINANCIAL ACCOUNTING AN INTRODUCTION TO CONCEPTS, METHODS, AND USES 12th Edition Chapter 1 -- Introduction to Business Activities and Overview of Financial Statements and the Reporting Process Clyde P. Stickney and Roman L. Weil

Learning Objectives 1.Develop a general understanding of four principal activities of business firms: (a) establishing goals and strategies, (b) obtaining financing, (c) making investments, and (d) conducting operations. 2.Develop an understanding of the purpose and content of the three principal financial statements that business firms prepare to measure and report the results of their business activities: (a) balance sheet, (b) income statement, and (c) statement of cash flows. 1.Develop a general understanding of four principal activities of business firms: (a) establishing goals and strategies, (b) obtaining financing, (c) making investments, and (d) conducting operations. 2.Develop an understanding of the purpose and content of the three principal financial statements that business firms prepare to measure and report the results of their business activities: (a) balance sheet, (b) income statement, and (c) statement of cash flows.

Learning Objectives 3.Develop a sensitivity to financial reporting issues, including the following: (a) the potential conflict of interest between management’s self- interest for job security and career enhancement with its responsibility to shareholders, (b) the alternative approaches to establishing accounting measurement and reporting standards, and (c) the role of the independent audit of a firm’s financial statements. 4.Develop a sensitivity to ethical issues in financial reporting using a framework for thinking about ethical questions. 3.Develop a sensitivity to financial reporting issues, including the following: (a) the potential conflict of interest between management’s self- interest for job security and career enhancement with its responsibility to shareholders, (b) the alternative approaches to establishing accounting measurement and reporting standards, and (c) the role of the independent audit of a firm’s financial statements. 4.Develop a sensitivity to ethical issues in financial reporting using a framework for thinking about ethical questions.

Chapter Outline 1.Overview of business activities. 2.Principal financial statements. 3.Other items in financial reports 4.Financial reporting issues 5.Financial reporting process in the United States. Chapter Summary 1.Overview of business activities. 2.Principal financial statements. 3.Other items in financial reports 4.Financial reporting issues 5.Financial reporting process in the United States. Chapter Summary

List Four Principal Activities of Business Firms: 1.Establishing goals and strategies, 2.Obtaining financing, 3.Making investments, and 4.Conducting operations. 1.Establishing goals and strategies, 2.Obtaining financing, 3.Making investments, and 4.Conducting operations.

Establishing Goals and Strategies  Maximize return to shareholders  Provide stimulating lifelong work for employees  Contribute to and integrate with national goals and policies  Maximize return to shareholders  Provide stimulating lifelong work for employees  Contribute to and integrate with national goals and policies  Considers competitors  Consider barriers  Consider demand  Consider regulation  Recognize management process not an individual process

Obtaining Financing and Making Investments  Financing comes from two sources, owners or creditors  Investments are made in the following: –Land, buildings, equipment –Patents, licenses, contractual rights –Stock and bonds of other organizations –Inventories –Accounts Receivable  Financing comes from two sources, owners or creditors  Investments are made in the following: –Land, buildings, equipment –Patents, licenses, contractual rights –Stock and bonds of other organizations –Inventories –Accounts Receivable

What are the Four Areas of Conducting Operations?

Overview of Business Activities

Purpose and Content of the Three Principal Financial Statements: a)Balance sheet, b)Income statement, c)Statement of cash flows, d)Notes to the financial statements, including various supporting schedules, e)Opinion of the independent certified public accountant. a)Balance sheet, b)Income statement, c)Statement of cash flows, d)Notes to the financial statements, including various supporting schedules, e)Opinion of the independent certified public accountant.

Review Balance Sheet  Snap shot in time  Asset, liabilities, owners’ equity  Retained earnings  Assets = Liabilities + Owners’ Equity  Historical valuation  Analysis of the balance sheet  Snap shot in time  Asset, liabilities, owners’ equity  Retained earnings  Assets = Liabilities + Owners’ Equity  Historical valuation  Analysis of the balance sheet

Balance Sheet  Snapshot of investing and financing activities at a moment in time.  Basic Accounting Equation: Assets = Liabilities + Shareholders’ Equity which is the same idea as Investing = Financing Investing = Financing Resources = Sources of Resources Liabilities = Claims on Resources  Snapshot of investing and financing activities at a moment in time.  Basic Accounting Equation: Assets = Liabilities + Shareholders’ Equity which is the same idea as Investing = Financing Investing = Financing Resources = Sources of Resources Liabilities = Claims on Resources

Relationship between Balance Sheet and Income Statement  The income statement links the balance sheet at the beginning of the period with the balance sheet at the end of the period.  Retained Earnings is increased by net income and decreased by dividends.  The income statement links the balance sheet at the beginning of the period with the balance sheet at the end of the period.  Retained Earnings is increased by net income and decreased by dividends.

Income Statement  Indicates earning or profit  Reports amounts for a period of time –Typically one year  Explain the following concepts –Revenue –Expenses  How is classification accomplished?  How is the income statement related to the balance sheet?  Indicates earning or profit  Reports amounts for a period of time –Typically one year  Explain the following concepts –Revenue –Expenses  How is classification accomplished?  How is the income statement related to the balance sheet?

Income Statement  Results of the operating activities of a firm for a specific time period.  Basic Income Equation: Net Income = Revenues - Expenses  Revenues are the inflows of assets from selling goods and services.  Expenses are the outflows of assets used in generating revenues.  Results of the operating activities of a firm for a specific time period.  Basic Income Equation: Net Income = Revenues - Expenses  Revenues are the inflows of assets from selling goods and services.  Expenses are the outflows of assets used in generating revenues.

Income Statement

Statement of Cash Flows  Classification –Operations –Investing –Financing  Discuss its relationship to the Balance Sheet.  Classification –Operations –Investing –Financing  Discuss its relationship to the Balance Sheet.

Who are Primary Participants in the Reporting Process? 1.Business firms and their managers 2.Accounting standards setting and regulatory bodies 3.Independent auditors 4.Security analysts and other users of financial statements 1.Business firms and their managers 2.Accounting standards setting and regulatory bodies 3.Independent auditors 4.Security analysts and other users of financial statements

Financial Reporting Issues a)The multiple uses of financial accounting reports b)The alternative approaches to establishing accounting measurement and reporting standards c)The role of the independent audit of a business firm’s financial statements d)The role of financial reporting in an efficient capital market a)The multiple uses of financial accounting reports b)The alternative approaches to establishing accounting measurement and reporting standards c)The role of the independent audit of a business firm’s financial statements d)The role of financial reporting in an efficient capital market

Financial Reporting in the U.S.  Legal authority to set accounting standards lies with the Securities and Exchange Commission (SEC)  The SEC looks to the Financial Accounting Standards Board (FASB), for leadership in establishing standards  Pronouncements of the FASB are called Generally Accepted Accounting Standards (GAAP)  Since 1973, the FASB has issued 159 statements and several conceptual papers  Legal authority to set accounting standards lies with the Securities and Exchange Commission (SEC)  The SEC looks to the Financial Accounting Standards Board (FASB), for leadership in establishing standards  Pronouncements of the FASB are called Generally Accepted Accounting Standards (GAAP)  Since 1973, the FASB has issued 159 statements and several conceptual papers

Classification of Cash Flows  Operations: cash from customers less cash paid in carrying out the firm’s operating activities  Investing: cash paid to acquire noncurrent assets less amounts from any sale of noncurrent assets  Financing: cash from issues of long-term debt or new capital less dividends  Operations: cash from customers less cash paid in carrying out the firm’s operating activities  Investing: cash paid to acquire noncurrent assets less amounts from any sale of noncurrent assets  Financing: cash from issues of long-term debt or new capital less dividends

Inflows and Outflows of Cash

Other Items in Annual Reports & Financial Reporting Issues  Supporting schedules and notes  Auditor’s opinion  Supporting schedules and notes  Auditor’s opinion  Users and uses of financial reports  Authority for establishing acceptable accounting standards  The role of an audit of a firm’s financial statements  Efficiency of capital markets

Auditor’s Opinion  Firms whose common stock is publicly traded are required to get an opinion by an independent auditor who: 1.Assesses the effectiveness of the firm’s internal control system for measuring and reporting business transactions 2.Assesses whether the financial statements and notes present fairly a firm’s financial position, results of operations, and cash flows in accordance with generally accepted accounting principles  Firms whose common stock is publicly traded are required to get an opinion by an independent auditor who: 1.Assesses the effectiveness of the firm’s internal control system for measuring and reporting business transactions 2.Assesses whether the financial statements and notes present fairly a firm’s financial position, results of operations, and cash flows in accordance with generally accepted accounting principles

The Opinion Letter  The first paragraph indicates the financial statements covered by the opinion and that the responsibility for the statements rests with management.  The second paragraph affirms that the auditor followed auditing standards and practices generally accepted by the accounting profession unless otherwise noted and described.  The third paragraph has the auditor’s opinion- - unqualified or qualified. Qualified opinions are either a disclaimer of opinion or an adverse opinion.  The first paragraph indicates the financial statements covered by the opinion and that the responsibility for the statements rests with management.  The second paragraph affirms that the auditor followed auditing standards and practices generally accepted by the accounting profession unless otherwise noted and described.  The third paragraph has the auditor’s opinion- - unqualified or qualified. Qualified opinions are either a disclaimer of opinion or an adverse opinion.

The Four Participants in the Financial Reporting Process. 1.Business firms and their managers 2.Accounting standards setting and regulatory bodies 3.Independent auditors 4.Security analysts and other users of financial statements 1.Business firms and their managers 2.Accounting standards setting and regulatory bodies 3.Independent auditors 4.Security analysts and other users of financial statements

SEC FASB GAAP Compilation of accounting rules, procedures and practices An agency of the federal government, that has the legal authority to set acceptable accounting methods and standards in the U.S. Private sector body, for leadership in establishing accounting standards

An International Perspective  The process of setting accounting standards vary widely around the world resulting in a diverse set of accounting principles.  Globalization of economies has increased the need for comparable and understandable financial information.  The International Accounting Standards Committee (IASC) issues recommendations for minimum standards.  The process of setting accounting standards vary widely around the world resulting in a diverse set of accounting principles.  Globalization of economies has increased the need for comparable and understandable financial information.  The International Accounting Standards Committee (IASC) issues recommendations for minimum standards.

Chapter Summary  This chapter provided a broad overview of business activities and how they are reflected in basic financial statements.  The three basic financial statements were introduced.  Further chapters examine the concepts and procedures that underlie each statement.  This chapter provided a broad overview of business activities and how they are reflected in basic financial statements.  The three basic financial statements were introduced.  Further chapters examine the concepts and procedures that underlie each statement.

Rapid Review - True or False The four principle business activities of a business firm are (a) (a)establishing goals and strategies(b) obtaining financing (c) making investments(d) conducting operations An income statement provides information about a firm’s cash- generating ability. An income statement provides information about a firm’s profitability. Cash-generating ability information is provided by the Statement of Cash Flows. Most independent auditors’ opinions are unqualified.