1. 1 Introduction to Accounting and Business 1

2. 1-2 2 After studying this chapter, you should be able to: Introduction to Accounting and Business 3 State the accounting equation and define each element of the equation. 2 Summarize the development of accounting principles and relate them to practice. 1 Describe the nature of a business, the role of accounting, and ethics in business. 1-2

3. 1-3 3 Introduction to Accounting and Business (continued) 4 Describe and illustrate how business transactions can be recorded in terms of the resulting change in the elements of the accounting equation. 5 Describe the financial statements of a proprietorship and explain how they interrelate. 1-3

4. 1-4 4 1 1 Describe the nature of a business, the role of accounting, and ethics in business. 1-4

5. 1-5 5 Types of Businesses Delta Air LinesTransportation services The Walt Disney CompanyEntertainment services Service Business Service 1

6. 1-6 6 Merchandising Business Product Wal-MartGeneral merchandise Amazon.comInternet books, music, videos 1 Types of Businesses

7. 1-7 7 Manufacturing Business Product General Motors Corp.Cars, trucks, vans Dell Inc.Personal computers 1 Types of Businesses

8. 1-8 8 The Role of Accounting in Business Accounting can be defined as an information system that provides reports to users about the economic activities and condition of a business. 1

9. 1-9 9 Identify users. Assess users’ informational needs. Design the accounting information system to meet users’ needs. Record economic data about business activities and events. Prepare accounting reports for users. The process by which accounting provides information to users is as follows: 1

10. 1-10 10 1 Exhibit 1 Users of Accounting Information

11. 1-11 11 The area of accounting that provides internal users with information is called managerial accounting. Managerial Accounting The objective of managerial accounting is to provide relevant and timely information for managers’ and employees’ decision-making needs. 1

12. 1-12 12 The area of accounting that provides external users with information is called financial accounting. Financial Accounting The objective of financial accounting is to provide relevant and timely information for the decision-making needs of users outside of the business. 1

13. 1-13 13 Ethics are moral principles that guide the conduct of individuals. Role of Ethics in Accounting and Business 1

14. 1-14 14 Failure of individual character Firm culture of greed and ethical indifference The answer to “What went wrong for these companies?” (Exhibit 2) involves one or both of these factors. 1

15. 1-15 15 1 Exhibit 3Guideline for Ethical Conduct 1.Identify an ethical decision by using your personal ethical standards of honesty and fairness. 2.Identify the consequences of the decision and its effect on others. 3.Consider your obligations and responsibilities to those that will be affected by your decision. 4.Make a decision that is ethical and fair to those affected by it.

16. 1-16 16 Accountants employed by a business firm or a not-for-profit organization are said to be employed in private accounting. Accountants and their staff who provide services on a fee basis are said to be employed in public accounting. Opportunities for Accountants 1

17. 1-17 17 Summarize the development of accounting principles and relate them to practice. 2 1-17

18. 1-18 18 Financial accountants follow generally accepted accounting principles (GAAP) in preparing reports. Generally Accepted Accounting Principles Within the United States, the Financial Accounting Standards Board (FASB) has the primary responsibility for developing accounting principles. (continued) 2

19. 1-19 19 The Securities and Exchange Commission (SEC), an agency of the U.S. government, has authority over the accounting and financial disclosures for companies whose shares of ownership are traded and sold to the public. Many countries outside the United States use generally accepted accounting principles adopted by the International Accounting Standards Board (IASB). 2

20. 1-20 20 Under the the activities of a business are recorded separately from the activities of its owners, creditors, or other businesses. Under the business entity concept, the activities of a business are recorded separately from the activities of its owners, creditors, or other businesses. Business Entity Concept 2

21. 1-21 21 70% of business entities in the United States. Easy and cheap to organize. Resources are limited to those of the owner. Used by small businesses. A proprietorship is owned by one individual. Business Entity Concept 2

22. 1-22 22 10% of business organizations in the United States (combined with limited liability companies). Combines the skills and resources of more than one person. A partnership is similar to a proprietorship except that it is owned by two or more individuals. Business Entity Concept 2

23. 1-23 23 Generates 90% of business revenues. 20% of the business organizations in the United States. Ownership is divided into shares called stock. Can obtain large amounts of resources by issuing stocks. Used by large businesses. A corporation is organized under state or federal statutes as a separate legal taxable entity. Business Entity Concept 2

24. 1-24 24 10% of business organizations in the United States (combined with partnerships). Often used as an alternative to a partnership. Has tax and legal liability advantages for owners. A limited liability company (LLC) combines attributes of a partnership and a corporation. Business Entity Concept 2

25. 1-25 25 Under the cost concept, amounts are initially recorded in the accounting records at their cost or purchase price. 2 Cost Concept

26. 1-26 26 The objectivity concept requires that the amounts recorded in the accounting records be based on objective evidence. 2 Objectivity Concept

27. 1-27 27 The unit of measure concept requires that economic data be recorded in dollars. 2 Unit of Measure Concept

28. 1-28 28 Cost Concept On August 25, Gallatin Repair Service extended an offer of $125,000 for land that had been priced for sale at $150,000. On September 3, Gallatin Repair Service accepted the seller’s counteroffer of $137,000. On October 20, the land was assessed at a value of $98,000 for property tax purposes. On December 4, Gallatin Repair Service was offered $160,000 for the land by a national retail chain. At what value should the land be recorded in Gallatin Repair Service’s records? Example Exercise 1-1 2 1-28

29. 1-29 29 $137,000. Under the cost concept, the land should be recorded at the cost to Gallatin Repair Service. For Practice: PE 1-1A, PE 1-1B 1-29 2 Follow My Example 1-1 Example Exercise 1-1 (continued)

30. 1-30 30 State the accounting equation and define each element of the equation. 3 1-30

31. 1-31 31 The resources owned by a business Assets = Liabilities + Owner’s Equity The Accounting Equation 3

32. 1-32 32 The rights of the creditors are the debts of the business. Assets = Liabilities + Owner’s Equity The Accounting Equation 3

33. 1-33 33 The rights of the owners Assets = Liabilities + Owner’s Equity The Accounting Equation 3

34. 34 Accounting Equation John Joos is the owner and operator of You’re A Star, a motivational consulting business. At the end of its accounting period, December 31, 2009, You’re A Star has assets of $800,000 and liabilities of $350,000. Using the accounting equation, determine the following amounts: a.Owner’s equity, as of December 31, 2009. b.Owner’s equity, as of December 31, 2010, assuming that assets increased by $130,000 and liabilities decreased by $25,000 during 2010. Example Exercise 1-2 3 1-34

35. 35 3 Example Exercise1-2 continued For Practice: PE 1-2A, PE 1-2B 1-35 a. Assets = Liabilities + Owner’s Equity $800,000 = $350,000 + Owner’s Equity Owner’s Equity =$450,000 Follow My Example 1-2 Example Exercise 1-2 (continued) b. First, determine the change in Owner’s Equity during 2010 as follows: Assets = Liabilities + Owner’s Equity $130,000 = –$25,000 + Owner’s Equity Owner’s Equity =$155,000 Next, add the change in Owner’s Equity on December 31, 2009 to arrive at Owner’s Equity on December 31, 2010, as shown below: $605,000 = $450,000 + $155,000

36. 1-36 36 4 Describe and illustrate how business transactions can be recorded in terms of the resulting change in the elements of the accounting equation. 1-36

37. 1-37 37 A business transaction is an economic event or condition that directly changes an entity’s financial condition or its results of operations. 4 Business Transaction

38. 1-38 38 On November 1, 2009, Chris Clark deposits $25,000 in a bank account in the name of NetSolutions. Transaction A 4

39. 1-39 39 CHRIS CLARK, CAPITAL 25,000 Investment by Chris Clark CASH 25,000 a. = Assets Owner’s Equity = Transaction A (continued) 4

40. 1-40 40 Transaction B On November 5, 2009, NetSolutions paid $20,000 for the purchase of land as a future building site. 4

41. 1-41 41 CASH + LAND 25,000 Bal. Assets = = Bal. 5,00020,000 25,000 b. –20,000 +20,000 CHRIS CLARK, CAPITAL 25,000 Owner’s Equity Transaction B (continued) 4

42. 1-42 42 On November 10, 2009, NetSolutions purchased supplies for $1,350 and agreed to pay the supplier in the near future. 4 Transaction C

43. 1-43 43 CASH + SUPPLIES + LAND 5,000 20,000 25,000 Bal. Assets = = ACCOUNTS CHRIS CLARK, PAYABLE + CAPITAL Liabilities + Owner’s Equity Transaction C (continued) c. +1,350 +1,350 Bal. 5,000 1,350 20,000 1,350 25,000 4

44. 1-44 44 Beginning with Transaction D the asset section will be shown first, then the liabilities and owner’s equity will be shown in the following slide. 4

45. 1-45 45 On November 18, 2009, NetSolutions received cash of $7,500 for providing services to customers. A business earns money by selling goods or services to its customers. This amount is called Revenue. Transaction D 4

46. 1-46 46 CASH + SUPPLIES + LAND 5,000 1,350 20,000 Bal. Assets Transaction D (continued) d. +7,500 Bal. 12,500 1.350 20,000 4

47. 1-47 47 Transaction D (continued) ACCOUNTS CHRIS CLARK, FEES PAYABLE + CAPITAL + EARNED 1,350 25,000 Bal. Liabilities + Owner’s Equity d. +7,500 Bal. 1,350 25,000 7,500 4

48. 1-48 48 During the month, NetSolutions spent cash or used up other assets in earning revenue. Assets used in this process of earning revenue are called expenses. 4 Expenses

49. 1-49 49 On November 30, 2009, NetSolutions paid the following expenses during the month: wages, $2,125; rent, $800; utilities, $450; and miscellaneous, $275. Transaction E 4

50. 1-50 50 CASH + SUPPLIES + LAND 12,500 1,350 20,000 Bal. Assets Transaction E (continued) e. –3,650 Bal. 8,850 1.350 20,000 4

51. 1-51 51 Transaction E (continued) ACCOUNTS CHRIS CLARK, FEES WAGES RENT UTIL. MISC. PAYABLE + CAPITAL + EARNED – EXP. – EXP. – EXP. – EXP. 1,350 25,000 7,500 Bal. Liabilities + Owner’s Equity e. –2,125 –800 –450 –275 Bal. 1,350 25,000 7,500 –2,125 –800 –450 –275 4

52. 1-52 52 On November 30, 2009, NetSolutions paid creditors on account, $950. Transaction F 4

53. 1-53 53 CASH + SUPPLIES + LAND 8,850 1,350 20,000 Bal. Assets Transaction F (continued) f. –950 Bal. 7,900 1.350 20,000 4

54. 1-54 54 ACCOUNTS CHRIS CLARK, FEES WAGES RENT UTIL. MISC. PAYABLE + CAPITAL + EARNED – EXP. – EXP. – EXP. – EXP. 1,350 25,000 7,500 –2,125 –800 –450 –275 Bal. Liabilities + Owner’s Equity f. –950 Bal. 400 25,000 7,500 –2,125 –800 –450 –275 Transaction F (continued) 4

55. 1-55 55 On November 30, 2009, Chris Clark determined that the cost of supplies on hand at the end of the period was $550. Transaction G 4

56. 1-56 56 CASH + SUPPLIES + LAND 7,900 1,350 20,000 Bal. Assets Transaction G (continued) g. –800 Bal. 7,900 550 20,000 4

57. 1-57 57 ACCOUNTS CHRIS CLARK, FEES WAGES RENT SUP. UTIL. MISC. PAYABLE + CAPITAL + EARNED – EXP. – EXP. – EXP. – EXP. – EXP. 400 25,000 7,500 –2,125 –800 –450 –275 Bal. Liabilities + Owner’s Equity g. –800 Bal. 400 25,000 7,500 –2,125 –800 –800 –450 –275 Transaction G (continued) 4

58. 1-58 58 On November 30, 2009, Chris Clark withdrew $2,000 from NetSolutions for personal use. Transaction H 4

59. 1-59 59 CASH + SUPPLIES + LAND 7,900 550 20,000 Bal. Assets Transaction H (continued) h. –2,000 Bal. 5,900 550 20,000 4

60. 1-60 60 Transaction H (continued) ACCTS. CLARK, CLARK, FEES WAGES RENT SUP. UTIL. MISC. PAY. + CAPITAL – DRAW. + EARNED – EXP. – EXP. – EXP. – EXP. – EXP. 400 25,000 7,500 –2,125 –800 –800 –450 –275 Bal. Liabilities + Owner’s Equity h. –2,000 Bal.400 25,000 –2,000 7,500 –2,125 –800 –800 –450 –275 4

61. 1-61 61 4 Summary

62. 1-62 62 4 Exhibit 5Effects of Transactions on Owner’s Equity

63. 1-63 63 Transactions Salvo Delivery Service is owned and operated by Joel Salvo. The following selected transactions were completed by Salvo Delivery Service during February: 1.Received cash from owner as additional investment, $35,000. 2.Paid creditors on account, $1,800. 3.Billed customers for delivery services on account, $11,250. 4.Received cash from customers on account, $6,740. 5.Paid cash to owner for personal use, $1,000. (Continued) Example Exercise 1-3 4 1-63

64. 1-64 64 Indicate the effect of each transaction on the accounting equation elements (Assets, Liabilities, Owner’s Equity, Drawing, Revenue, and Expense) by listing the numbers identifying the transactions, (1) through (5). Also, indicate the specific item within the accounting equation element that is affected. To illustrate, the answer to (1) is shown below. (1) Asset (Cash) increases by $35,000; Owner’s Equity (Joel Salvo, Capital) increases by $35,000. Example Exercise 1-3 (continued) 4 1-64

65. 1-65 65 Example Exercise 1-3 (continued) (2)Asset (Cash) decreases by $1,800; Liability (Accounts Payable) decreases by $1,800. (3)Asset (Accounts Receivable) increases by $11,250; Revenue (Delivery Service Fees) increases by $11,250. (4)Asset (Cash) increases by $6,740; Asset (Accounts Receivable) decreases by $6,740. (5)Asset (Cash) decreases by $1,000; Drawing (Joel Salvo, Drawing) increases by $1,000. Follow My Example 1-3 4 For Practice: PE 1-3A, PE 1-3B 1-65 Follow My Example 1-3

66. 1-66 66 5 Describe the financial statements of a proprietorship and explain how they interrelate. 1-66

67. 1-67 67 After transactions have been recorded and summarized, reports are prepared for users. The accounting reports providing this information are called financial statements. 5 Financial Statements

68. 1-68 68 The income statement reports the revenues and expenses for a period of time, based on the matching concept. 5 Income Statement

69. 1-69 69 The matching concept is applied by matching the expenses with the revenue generated during a period by those expenses. 5 Matching Concept

70. 1-70 70 The excess of revenue over the expenses is called net income or net profit. If the expenses exceed the revenue, the excess is a net loss. 5

71. 1-71 71 Net income is carried to the statement of owner’s equity. 5 Exhibit 6Financial Statements for NetSolutions

72. 72 Income Statement The assets and liabilities of Chickadee Travel Service at April 30, 2010, the end of the current year, and its revenue and expenses for the year are listed below. The capital of the owner, Adam Cellini, was $80,000 at May 1, 2009, the beginning of the current year. Accounts payable$ 12,200Miscellaneous expense $ 12,950 Accounts receivable31,350Office expense 63,000 Cash53,050Supplies3,350 Fees earned 263,200Wages expense131,700 Land80,000 Prepare an income statement for the current year ended April 30, 2010. Example Exercise 1-4 5 1-72

73. 73 CHICKADEE TRAVEL SERVICE INCOME STATEMENT For the Year Ended April 30, 2010 Fees earned$263,200 Expenses: Wages expense$131,700 Office expense63,000 Miscellaneous expense 12,950 Total expenses 207,650 Net income$ 55,550 Example Exercise 1-4 (continued) 5 For Practice: PE 1-4A, PE 1-4B 1-73 Follow My Example 1-3 Follow My Example 1-4

74. 1-74 74 The statement of owner’s equity reports the changes in the owner’s equity for a period of time. 5 Statement of Owner’s Equity

75. 1-75 75 From the income statement To the balance sheet 5 Exhibit 6 Financial Statements for NetSolutions (continued)

76. 76 Statement of Owner’s Equity Using the data for Chickadee Travel Service shown in Example Exercise 1-4, prepare a statement of owner’s equity for the current year ended April 30, 2010. Adam Cellini invested an additional $50,000 in the business during the year and withdrew cash of $30,000 for personal use. Example Exercise 1-5 5 1-76

77. 77 CHICKADEE TRAVEL SERVICE STATEMENT OF OWNER’S EQUITY For the Year Ended April 30, 2010 Example Exercise 1-5 continued Follow My Example 1-5 5 For Practice: PE 1-5A, PE 1-5B 1-77 Adam Cellini, capital, May 1, 2009$ 80,000 Additional investment by owner during year$ 50,000 Net income for the year 55,550 $105,550 Less withdrawals 30,000 Increase in owner’s equity 75,550 Adam Cellini, capital, April 30, 2010$155,550

78. 1-78 78 A balance sheet is a list of the assets, liabilities, and owner’s equity as of a specific date. 5 Balance Sheet

79. 1-79 79 The account form of a balance sheet lists the assets on the left and the liabilities and owner’s equity on the right—similar to the design of an account. 5 Account Form

80. 1-80 80 This amount is compared to the net cash flow on the statement of cash flows. From the statement of owner’s equity 5 Exhibit 6 Financial Statements for NetSolutions (continued)

81. 81 Balance Sheet Using the data for Chickadee Travel Service shown in Example Exercises 1-4 and 1-5, prepare the balance sheet as of April 30, 2010. Example Exercise 1-6 5 1-81

82. 82 Example Exercise 1-6 (continued) 5 For Practice: PE 1-6A, PE 1-6B CHICKADEE TRAVEL SERVICE BALANCE SHEET April 30, 2010 Assets Liabilities Cash$ 53,050Accounts payable $ 12,200 Accounts receivable31,350 Supplies3,350 Owner’s Equity Land 80,000Adam Cellini, capital 155,550 Total assets$167,750Total liab. & owner’s eq.$167,750 1-82 Follow My Example 1-3 Follow My Example 1-6

83. 1-83 83 A statement of cash flows is a summary of the cash receipts and payments for a specific period of time. It consists of three sections: (1) operating activities, (2) investing activities, and (3) financing activities. 5 Statement of Cash Flows

84. 1-84 84 This amount should match Cash on the balance sheet. 5 Financial Statements for NetSolutions (continued) Exhibit 6

85. 1-85 85 The cash flows from operating activities section reports a summary of cash receipts and cash payments from operations. 5 Operating Activities

86. 1-86 86 The cash flows from investing activities section reports the cash transactions for the acquisition and sale of relatively permanent assets. 5 Investing Activities

87. 1-87 87 The cash flows from financing activities section reports the cash transactions related to cash investments by the owner, borrowings, and withdrawals by the owner. 5 Financing Activities

88. 88 Statement of Cash Flows A summary of cash flows for Chickadee Travel Service for the year ended April 30, 2010, is shown below. Cash receipts: Cash received from customers$251,000 Cash received from additional investment of owner50,000 Cash payments: Cash paid for expenses210,000 Cash paid for land80,000 Cash paid to owner for personal use30,000 The cash balance as of May 1, 2009, was $72,050. Prepare a statement of cash flows for Chickadee Travel Service for the year ended April 30, 2010. Example Exercise 1-7 5 1-88

89. 89 Cash flows from operating activities: Cash received from customers $251,000 Deduct cash payments for expenses 210,000 Net cash flows from operating activities$ 41,000 Cash flows from investing activities: Cash payments for purchase of land(80,000) Cash flows from financing activities: Cash received from owner as investment $ 50,000 Deduct cash withdrawals by owner 30,000 Net cash flows from financing activities 20,000 Net decrease in cash during year$(19,000) Cash as of May 1, 2009 72,050 Cash as of April 30, 2010 $ 53,050 Example Exercise 1-7 (continued) 5 1-89 For Practice: PE 1-7A, PE 1-7B Follow My Example 1-3 Follow My Example 1-7

90. 1-90 90 The income statement and the statement of owner’s equity are interrelated. Net income or net loss appears on both statements. Interrelationships Among Financial Statements 5

91. 1-91 91 The statement of owner’s equity and the balance sheet are interrelated. The owner’s capital at the end of the period on the statement of owner’s equity also appears on the balance sheet as owner’s capital. Interrelationships Among Financial Statements 5

92. 1-92 92 The balance sheet and the statement of cash flows are interrelated. The cash reported on the balance sheet is also reported as the end-of-period cash on the statement of cash flows. Interrelationships Among Financial Statements 5

93. 1-93 93 Financial Analysis and Interpretation Ratio of Liabilities to Owner’s Equity = Total Liabilities Total Owner’s Equity (or Total Stockholders’ Equity) For NetSolutions: Ratio of Liabilities to Owner’s Equity = $400 $26,050 = 0.015 5

94. 1-94 94