1. The Financial Statements
CHAPTER 1
The Financial Statements
© 2001 Prentice Hall Business Publishing Financial Accounting, 4/e Harrison & Horngren

2. ACCOUNTING - THE BASIS OF DECISION MAKING
Accounting is the “language of business”
Accounting is the information system that
Measures business activities
Processes that information into reports
Communicates the results to decision makers
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3. THE ACCOUNTING SYSTEM: THE FLOW OF INFORMATION
1. People make decisions
2. Business transactions occur
3. Businesses prepare reports to show the
results of their operations
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4. ACCOUNTING VS. BOOKKEEPING
Bookkeeping is the procedural element of accounting that processes the accounting data
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5. DECISION MAKERS WHO USE ACCOUNTING INFORMATION
Individuals
Businesses
Investors and Creditors
Government Regulatory Agencies
Taxing Authorities
Nonprofit Organizations
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6. FINANCIAL ACCOUNTING AND MANAGEMENT ACCOUNTING
Financial accounting provides information to managers and people outside the firm
Financial accounting information must meet certain standards of relevance and reliability
Management accounting generates confidential information for internal decision makers, e.g.,
Top executives
Department heads
© 2001 Prentice Hall Business Publishing Financial Accounting, 4/e Harrison & Horngren

7. ETHICAL CONSIDERATIONS
Ethical standards in accounting are designed to produce accurate information for decision making
The result of ethical behavior by accountants is information that people can rely on for decision making
© 2001 Prentice Hall Business Publishing Financial Accounting, 4/e Harrison & Horngren

8. TYPES OF BUSINESS ORGANIZATIONS
Proprietorships
Have a single owner who is generally the manager
Are business entities, but not legal entities
Have debt for which the proprietor is personally liable
© 2001 Prentice Hall Business Publishing Financial Accounting, 4/e Harrison & Horngren

9. TYPES OF BUSINESS ORGANIZATIONS
Partnerships
Join two or more persons together as co-owners
Are business entities, but not legal entities
Have debt for which each partner is personally liable
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10. TYPES OF BUSINESS ORGANIZATIONS
Corporations
Are owned by stockholders or shareholders
Are business entities and legal entities
Are liable for all debts
Stockholders have no personal obligation for corporation debts
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11. ACCOUNTING PRINCIPLES AND CONCEPTS
Generally accepted accounting principles (GAAP) are
The rules that govern how accountants operate
Based upon a conceptual framework written by the Financial Accounting Standards Board (FASB)
© 2001 Prentice Hall Business Publishing Financial Accounting, 4/e Harrison & Horngren

12. ACCOUNTING PRINCIPLES AND CONCEPTS
The FASB works with the SEC (Securities and Exchange Commission) and the AICPA (American Institute of Certified Public Accountants)
© 2001 Prentice Hall Business Publishing Financial Accounting, 4/e Harrison & Horngren

13. KEY ACCOUNTING ORGANIZATIONS
Public Sector
Law creates the SEC to
regulate the stock and
bond market in the U.S.
Private Sector
The FASB determines
generally accepted
accounting principles
Private Sector
Accountants apply
GAAP through
the AICPA
GAAP governs
accounting
information
© 2001 Prentice Hall Business Publishing Financial Accounting, 4/e Harrison & Horngren

14. ACCOUNTING PRINCIPLES AND CONCEPTS
The entity concept
States that an organization is an economic entity that keeps its affairs separate from those of the owner(s)
The reliability (objective) principle
States that accounting records and statements are based on the most reliable data available and documented by objective evidence
© 2001 Prentice Hall Business Publishing Financial Accounting, 4/e Harrison & Horngren

15. ACCOUNTING PRINCIPLES AND CONCEPTS
The cost principle
States that acquired assets and services should be recorded at their actual (historical) cost and should maintain that historical cost for as long as they are owned
The going-concern concept
States that the entity will remain in operation for the foreseeable future
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16. ACCOUNTING PRINCIPLES AND CONCEPTS
The stable-monetary-unit concept
States that each dollar has the same purchasing power as any other dollar at any other time
© 2001 Prentice Hall Business Publishing Financial Accounting, 4/e Harrison & Horngren

17. THE ACCOUNTING EQUATION
The accounting equation presents the resources of the business and the claims to those resources
Economic Resources = Claims to Economic Resources or
Assets = Liabilities + Owners’ Equity
© 2001 Prentice Hall Business Publishing Financial Accounting, 4/e Harrison & Horngren

18. THE ACCOUNTING EQUATION
Assets are the economic resources of a business that are expected to be of benefit in the future
Claims to assets come from
Liabilities
Economic obligations - debts payable to outsiders, called creditors
Owners’ equity (capital)
Assets held by the owners of the business
© 2001 Prentice Hall Business Publishing Financial Accounting, 4/e Harrison & Horngren

19. THE ACCOUNTING EQUATION
For a corporation, stockholders’ (owners’) equity consists of two main categories
Paid-in capital
Retained earnings
Assets = Liabilities + Stockholders’ Equity or
Assets = Liabilities + Paid-in Capital + Retained Earnings
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20. THE ACCOUNTING EQUATION
Paid-in (contributed) capital is
The amount invested in the corporation by its owners
Comprised basically of common stock
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21. THE ACCOUNTING EQUATION
Retained earnings
Is the amount earned by income-producing activities and kept for use in the business
Is affected by
Revenues - increases in retained earnings from delivering goods or services
Expenses - decreases in retained earnings that result from operations
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22. THE ACCOUNTING EQUATION
Net income (net earnings)
Total revenues exceed total expenses
Net loss
Total expenses exceed total revenues
Dividends
Distributions to stockholders (usually cash) generated by net income
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23. COMPONENTS OF RETAINED EARNINGS
Revenues for the
Period -
Expenses for the
Period
Start of the Period =
End of the Period
Beginning Balance
of Retained
Earnings
Net Income (Loss)
for the Period
Dividends for the
Period
Ending Balance of
Retained
Earnings + - - =
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24. THE ACCOUNTING EQUATION
The owners’ equity of proprietorships and partnerships
Makes no distinction between paid-in capital and retained earnings
Accounts for the equity of each owner under the single heading of Capital
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25. INFORMATION REPORTED ON THE FINANCIAL STATEMENTS
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26. Question Answer Financial Statement1. 2. 3. 4.
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27. INCOME STATEMENT
The income statement (statement of earnings) reports the company’s revenues, expenses, and net income or net loss for the period
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28. INCOME STATEMENT
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29. INCOME STATEMENT Revenues are Expenses are
Increases in retained earnings from delivering goods or services to customers or clients
Expenses are
Decreases in retained earnings that result from operations
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30. INCOME STATEMENT Expenses include Cost of goods sold (cost of sales)
The cost of the goods that a company sold to its customers
Operating expenses
The costs of operating the business
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31. INCOME STATEMENT Operating expenses Advertising Depreciation
The cost to promote the company’s products
Depreciation
The expense of using company-owned buildings, equipment, and furniture
Other operating expenses
The costs of salaries, utilities, rent, and supplies
Interest expense
The cost of borrowed money
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32. STATEMENT OF RETAINED EARNINGS
The statement of retained earnings reports that portion of net income the company has retained, or kept for use in the business
Net income increases retained earnings
Dividends paid to stockholders decrease retained earnings
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33. STATEMENT OF RETAINED EARNINGS
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34. BALANCE SHEET
The balance sheet (statement of financial position) reports the company’s assets, liabilities, and owners’ equity
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35. BALANCE SHEET
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36. ASSETS Current assets are Current assets include
Those assets which the company expects to convert to cash, sell, or consume during the next 12 months or within the business's normal operating cycle if longer than a year
Current assets include
Cash
Accounts receivable
Merchandise inventory
Prepaid expenses
© 2001 Prentice Hall Business Publishing Financial Accounting, 4/e Harrison & Horngren

37. ASSETS Long-term assets are Long-term assets include
Those assets which the company expects to hold longer then the next 12 months or the business’s normal operating cycle if longer than one year
Long-term assets include
Property
Equipment
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38. ASSETS Intangible assets are Other assets are
Those with no physical form
Trademarks
Patents
Other assets are
Those with small values which do not fall within any other standard asset category
© 2001 Prentice Hall Business Publishing Financial Accounting, 4/e Harrison & Horngren

39. LIABILITIES Current liabilities are Current liabilities include
Debts payable within one year or within the business’s normal operating cycle if longer than a year
Current liabilities include
Notes payable, short term
Accounts payable
Accrued expenses payable
Income taxes payable
© 2001 Prentice Hall Business Publishing Financial Accounting, 4/e Harrison & Horngren

40. LIABILITIES Long-term liabilities are Long-term liabilities include
Debts not payable within one year or within the business’s normal operating cycle if longer than a year
Long-term liabilities include
Notes payable, long term
Bonds payable
© 2001 Prentice Hall Business Publishing Financial Accounting, 4/e Harrison & Horngren

41. OWNERS’ EQUITY Owners’ equity
Represents the shareholders’ ownership of the assets of the business
Owners’ equity of a corporation consists of
Common stock
Retained earnings
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42. STATEMENT OF CASH FLOWS
The statement of cash flows reports the company’s cash inflows and outflows from operating, investing, and financing activities
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43. © 2001 Prentice Hall Business Publishing Financial Accounting, 4/e Harrison & Horngren

44. STATEMENT OF CASH FLOWS
Operating activities
Companies operate by buying goods and services, which are sold to customers
Investing Activities
Companies invest in long-term assets that are used to run the business
Financing Activities
Companies finance themselves by issuing stock and borrowing money
© 2001 Prentice Hall Business Publishing Financial Accounting, 4/e Harrison & Horngren

45. RELATIONSHIPS AMONG THE FINANCIAL STATEMENTS
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46. © 2001 Prentice Hall Business Publishing Financial Accounting, 4/e Harrison & Horngren

47. END OF CHAPTER 1
© 2001 Prentice Hall Business Publishing Financial Accounting, 4/e Harrison & Horngren