Power Notes Introduction to Accounting and Business

Power Notes Introduction to Accounting and Business
Learning Objectives 1. Nature of a Business 2. The Role of Accounting in Business 3. Business Ethics 4. Profession of Accounting 5. Generally Accepted Accounting Principles 6. Assets, Liabilities, and Owner’s Equity 7. Business Transactions 8. Financial Statements 9. Financial Analysis and Interpretation

Living in the Information Age
Data Communication News Commentary Facts Access

Living in the Information Age
Data Communication News Timeliness Independence Freedom-of-Expression Commentary Facts Access

Business and Investment
Goal Products Profit Business Sells Services Profit

Business Profit Amounts earned from selling products or services
Costs incurred with sales Amounts earned from sales less expenses incurred

1 Types of Businesses Service Business Service Delta Air Lines Transportation services The Walt Disney Company Entertainment services

1 Types of Businesses Merchandising Business Product Wal-Mart General merchandise Amazon.com Internet books, music, videos

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

Accounting Information
Factors of production are the means businesses use to make profit. Land and Building Accounting Information Labor and Equipment

Forms of Organization Business Proprietorship Corporation Partnership
Exh. 1.4 Forms of Organization Business Proprietorship Sally’s Grocery Corporation Partnership Law Offices

Owners of a corporation are called shareholders (or stockholders).
When a corporation issues only one class of stock, we call it common stock (or capital stock).

Forms of Organization Nonbusiness Government Nonprofit Private Exh.
1.4 Forms of Organization Nonbusiness Government Nonprofit Private

Nonbusiness Organization
Libraries Army Airports Cities Colleges Museums Hospitals Prisons Shelters Schools Accounting for these organizations is usually a fund-based system, but the basic principles are similar to accounting for business organizations.

The Role of Accounting in Business
1 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.

Focus of Accounting Identifying Economic Events
Recording Economic Events Reporting and Analyzing Economic Events

Influence of Accounting
is a system that Accounting Identifies Records information that is Relevant Communicates Reliable to help users make better decisions. Comparable

1 The process by which accounting provides information to users is as follows: 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.

Accounting — An Information Process
Identification of Users

Users of Accounting Information
investors creditors regulators customers competitors Financial Accounting EXTERNAL USERS

Users of Accounting Information
investors creditors regulators customers competitors Financial Accounting EXTERNAL USERS Managerial Accounting owners managers employees INTERNAL USERS

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

1 Financial Accounting The area of accounting that provides external users with information is called 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.

Identification of Users User Information Needs Accounting System

Identification of Users User Information Needs Economic Data and Activities Accounting System

Identification of Users User Information Needs Economic Data and Activities Accounting System Reports

Identification of Users User Information Needs Economic Data and Activities Accounting System User Decisions Reports

1 Exhibit 1 Users of Accounting Information

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

Ethics and Social Responsibility
Beliefs that separate right from wrong Often coincide with laws Accepted standards of good and bad behavior

Guidelines for Ethical Decision Making
Make Ethical Decision Identify Ethical Issues Analyze Options Use personal ethics to recognize ethical issues. Consider both the good and bad consequences for all affected. Choose the best option after weighing all consequences.

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

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

2 Example Exercise 1-1 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? 1-28

Example Exercise 1-1 (continued)
2 Follow My Example 1-1 $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 Objectivity Concept The objectivity concept requires that the amounts recorded in the accounting records be based on objective evidence.

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

Fundamental Principles of Accounting
Business Entity Principle A business is accounted for separately from its owner or owners. Objectivity Principle Financial statement information is supported by independent, unbiased evidence. Cost Principle Financial statements are based on actual costs incurred in business transactions. Going-Concern Principle A business continues operating instead of being closed or sold. Monetary Unit Principle Express transactions and events in monetary units.

The Accounting Equation
Resources What are an organization’s resources called?

The Accounting Equation
Resources = Sources Assets What are the sources of the assets? Cost of resources used in the business

The Accounting Equation Resources supplied by creditors and owners
Resources = Sources Liabilities Assets Owner’s Equity Resources supplied by creditors and owners Cost of resources used in the business

3 Example Exercise 1-2 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: 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. 1-34

3 a Assets = Liabilities + Owner’s Equity $800,000 = $350,000 + Owner’s Equity Owner’s Equity = $450,000 Follow My Example 1-2 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 Example Exercise1-2 continued For Practice: PE 1-2A, PE 1-2B 1-35

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

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

Business Transactions
a. Chris Clark deposits $25,000 in a bank account for NetSolutions. ASSETS LIABILITIES = OWNER’S EQUITY

a. Chris Clark deposits $25,000 in a bank account for NetSolutions. ASSETS LIABILITIES Cash 25,000 = OWNER’S EQUITY Chris Clark, Capital 25,000

Chris Clark deposits $25,000 in a bank account for NetSolutions.
Transaction Analysis Chris Clark deposits $25,000 in a bank account for NetSolutions. The accounts involved are: (1) Cash (asset) (2) Chris Clark, Capital (equity) 21

Transaction Analysis 21

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

b. NetSolutions buys land for $20,000. ASSETS LIABILITIES = OWNER’S EQUITY

b. NetSolutions buys land for $20,000. ASSETS LIABILITIES Cash (20,000) = OWNER’S EQUITY Land 20,000

NetSolutions buys land for $20,000.
Transaction Analysis NetSolutions buys land for $20,000. The accounts involved are: (1) Cash (asset) (2) Land (asset) 25

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

c. NetSolutions buys supplies for $1,350, agreeing to pay the supplier in the near future. ASSETS LIABILITIES = OWNER’S EQUITY

c. NetSolutions buys supplies for $1,350, agreeing to pay the supplier in the near future. ASSETS LIABILITIES Accounts Payable 1,350 Supplies 1,350 = OWNER’S EQUITY

Transaction Analysis NetSolutions buys supplies for $1,350, agreeing to pay the supplier in the near future. The accounts involved are: (1) Supplies (asset) (2) Accounts Payable (liability) 30

4 Transaction D 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.

d. NetSolutions earns fees of $7,500, receiving cash. ASSETS LIABILITIES = OWNER’S EQUITY

d. NetSolutions earns fees of $7,500, receiving cash. ASSETS LIABILITIES Cash 7,500 = OWNER’S EQUITY Fees Earned 7,500

NetSolutions earns fees of $7,500, receiving cash.
Transaction Analysis NetSolutions earns fees of $7,500, receiving cash. The accounts involved are: (1) Cash (asset) (2) Revenues (equity) 32

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

e. NetSolutions paid: wages, $2,125; rent, $800; utilities, $450; and miscellaneous, $275. ASSETS LIABILITIES = OWNER’S EQUITY

e. NetSolutions paid: wages, $2,125; rent, $800; utilities, $450; and miscellaneous, $275. ASSETS LIABILITIES Cash (3,650) = OWNER’S EQUITY Expenses (3,650)

Transaction Analysis The accounts involved are: (1) Cash (asset)
NetSolutions paid: wages, $2,125; rent, $800; utilities, $450; and miscellaneous, $275. The accounts involved are: (1) Cash (asset) (2) Expenses (equity)

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

f. NetSolutions pays $950 to creditors on account. ASSETS LIABILITIES = OWNER’S EQUITY

f. NetSolutions pays $950 to creditors on account. ASSETS LIABILITIES Accounts Payable (950) Cash (950) = OWNER’S EQUITY

NetSolutions pays $950 to creditors on account
Transaction Analysis NetSolutions pays $950 to creditors on account The accounts involved are: (1) Cash (asset) (2) Accounts payable (liability)

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

g. At the end of the month, the cost of supplies on hand is $550. ASSETS LIABILITIES = OWNER’S EQUITY

g. At the end of the month, the cost of supplies on hand is $550. ASSETS LIABILITIES Supplies (800) = OWNER’S EQUITY Supplies Expense (800)

At the end of the month, the cost of supplies on hand is $550.
Transaction Analysis At the end of the month, the cost of supplies on hand is $550. The accounts involved are: (1) Supplies (asset) (2) Supplies expense (equity)

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

h. Chris Clark withdraws $2,000 in cash. ASSETS LIABILITIES = OWNER’S EQUITY

h. Chris Clark withdraws $2,000 in cash. ASSETS LIABILITIES Cash (2,000) = OWNER’S EQUITY Chris Clark, Drawing (2,000)

Chris Clark withdraws $2,000 in cash
Transaction Analysis Chris Clark withdraws $2,000 in cash The accounts involved are: (1) Cash (asset) (2) Chris Clark, Drawing (equity)

= Transaction Summary ASSETS LIABILITIES Cash 5,900 OWNER’S EQUITY
Supplies 550 Land 20,000 = OWNER’S EQUITY

= Transaction Summary ASSETS LIABILITIES Accts. Payable 400 Cash 5,900
Supplies 550 Land 20,000 = OWNER’S EQUITY

= Transaction Summary ASSETS LIABILITIES Accts. Payable 400 Cash 5,900
Supplies 550 Land 20,000 = OWNER’S EQUITY C. Clark, Capital 25,000 C. Clark, Drawing (2,000) Fees Earned 7,500 Wages Expense (2,125) Rent Expense (800) Supplies Expense (800) Utilities Expense (450) Misc. Expense (275)

Effects of Transactions on Owner’s Equity
decreased by Owner’s withdrawals Expenses

increased by Owner’s investments Revenues

decreased by increased by Owner’s withdrawals Expenses Owner’s investments Revenues

decreased by increased by Owner’s withdrawals Expenses Owner’s investments Revenues NET INCOME

4 Exhibit 5 Effects of Transactions on Owner’s Equity

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

4 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. 1-64

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

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

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

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

5 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.

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

For the Month Ended November 30, 2009
Financial Statements NetSolutions Income Statement For the Month Ended November 30, 2009 Fees earned $7,500 Operating expenses: Wages expense $2,125 Rent expense 800 Supplies expense 800 Utilities expense 450 Miscellaneous expense 275 Total operating expenses 4,450 Net income $3,050

For the Month Ended November 30, 2002
Financial Statements NetSolutions Income Statement For the Month Ended November 30, 2002 Fees earned $7,500 Operating expenses: Wages expense $2,125 Rent expense 800 Supplies expense 800 Utilities expense 450 Miscellaneous expense 275 Total operating expenses 4,450 Net income $3,050

5 Example Exercise 1-4 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 $ 12,200 Miscellaneous expense $ 12,950 Accounts receivable 31,350 Office expense ,000 Cash 53,050 Supplies 3,350 Fees earned 263,200 Wages expense 131,700 Land 80,000 Prepare an income statement for the current year ended April 30, 2010. 1-72

5 CHICKADEE TRAVEL SERVICE INCOME STATEMENT
Example Exercise 1-4 (continued) 5 Follow My Example 1-3 Follow My Example 1-4 CHICKADEE TRAVEL SERVICE INCOME STATEMENT For the Year Ended April 30, 2010 Fees earned $263,200 Expenses: Wages expense $131,700 Office expense 63,000 Miscellaneous expense 12,950 Total expenses ,650 Net income $ 55,550 For Practice: PE 1-4A, PE 1-4B 1-73

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

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

Statement of Owner’s Equity For the Month Ended November 30, 2009
Financial Statements NetSolutions Statement of Owner’s Equity For the Month Ended November 30, 2009 Chris Clark, capital, November 1, $ Investment on November 1, 2009 $25,000 Net income for November 3,050 $28,050 Less withdrawals 2,000 Increase in owner’s equity 26,050 Chris Clark, capital, November 30, $26,050

5 1-76 Example Exercise 1-5 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, Adam Cellini invested an additional $50,000 in the business during the year and withdrew cash of $30,000 for personal use. 1-76

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

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

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

5 1-81 Example Exercise 1-6 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. 1-81

CHICKADEE TRAVEL SERVICE
Example Exercise 1-6 (continued) 5 Follow My Example 1-3 Follow My Example 1-6 CHICKADEE TRAVEL SERVICE BALANCE SHEET April 30, 2010 Assets Liabilities Cash $ 53,050 Accounts payable $ 12,200 Accounts receivable 31,350 Supplies 3, Owner’s Equity Land 80,000 Adam Cellini, capital ,550 Total assets $167,750 Total liab. & owner’s eq. $167,750 For Practice: PE 1-6A, PE 1-6B 1-82

Financial Statements NetSolutions Balance Sheet November 30, 2009
Assets Cash $5,900 Supplies 550 Land 20,000 Total assets $26,450 Liabilities Accounts payable $ 400 Owner’s Equity Chris Clark, capital 26,050 Total liabilities and owner’s equity $26,450

Statement of Cash Flows
5 Statement of Cash Flows 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 Operating Activities The cash flows from operating activities section reports a summary of cash receipts and cash payments from operations.

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

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

Statement of Cash Flows For the Month Ended November 30, 2009
Financial Statements NetSolutions Statement of Cash Flows For the Month Ended November 30, 2009 Cash flows from operating activities: Cash received from customers $ 7,500 Deduct cash payments for expenses and payments to creditors 4,600 Net cash flow from operating activities $ 2,900 Cash flows from investing activities: Cash payments for acquisition of land (20,000) Cash flows from financing activities: Cash received as owner’s investment $25,000 Deduct cash withdrawal by owner 2,000 Net cash flow from financing activities 23,000 Net cash flow and Nov. 30, 2002 cash balance $5,900

Financial Statements NetSolutions Statement of Cash Flows For the Month Ended November 30, 2002 Cash flows from operating activities: Cash received from customers $ 7,500 Deduct cash payments for expenses and payments to creditors 4,600 Net cash flow from operating activities $ 2,900 Cash flows from investing activities: Cash payments for acquisition of land (20,000 Cash flows from financing activities: Cash received as owner’s investment $25,000 Deduct cash withdrawal by owner 2,000 Net cash flow from financing activities 23,000 Net cash flow and Nov. 30, 2002 cash balance $5,900 )

Financial Statements NetSolutions Statement of Cash Flows For the Month Ended November 30, 2002 Cash flows from operating activities: Cash received from customers $ 7,500 Deduct cash payments for expenses and payments to creditors 4,600 Net cash flow from operating activities $ 2,900 Cash flows from investing activities: Cash payments for acquisition of land (20,000) Cash flows from financing activities: Cash received as owner’s investment $25,000 Deduct cash withdrawal by owner 2,000 Net cash flow from financing activities 23,000 Net cash flow and Nov. 30, 2002 cash balance $5,900 )

Financial Statements NetSolutions Statement of Cash Flows For the Month Ended November 30, 2002 Cash flows from operating activities: Cash received from customers $ 7,500 Deduct cash payments for expenses and payments to creditors 4,600 Net cash flow from operating activities $ 2,900 Cash flows from investing activities: Cash payments for acquisition of land (20,000 Cash flows from financing activities: Cash received as owner’s investment $25,000 Deduct cash withdrawal by owner 2,000 Net cash flow from financing activities 23,000 Net cash flow and Nov. 30, 2002 cash balance $5,900 )

5 Statement of Cash Flows
Example Exercise 1-7 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 owner 50,000 Cash payments: Cash paid for expenses 210,000 Cash paid for land 80,000 Cash paid to owner for personal use 30,000 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. 1-88

5 For Practice: PE 1-7A, PE 1-7B 1-89 Example Exercise 1-7 (continued)
Follow My Example 1-3 Follow My Example 1-7 Cash flows from operating activities: Cash received from customers $251,000 Deduct cash payments for expenses ,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 ,000 Net cash flows from financing activities ,000 Net decrease in cash during year $(19,000) Cash as of May 1, ,050 Cash as of April 30, $ 53,050 For Practice: PE 1-7A, PE 1-7B 1-89

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

5 Interrelationships Among Financial Statements 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.

5 Interrelationships Among Financial Statements 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.

Financial Analysis and Interpretation
5 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 =

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