Review: ACCOUNTING AND BASIC FINANCIAL STATEMENTS

1. Review: ACCOUNTING AND BASIC FINANCIAL STATEMENTS Professor Chris Wimmer – Feb 24, 2008

2. The accounting process Accounting “links” decision makers with economic activities ¾ and with the results of their decisions. Accounting information Economic activities Actions (decisions) Decision makers

3. Information System • Information Users • Investors • Creditors • Managers • Owners • Customers • Employees • Regulators -SEC • -IRS • -EPA • Financial Information Provided • Profitability • Financial position • Cash flows • Decisions Supported • Performance evaluations • Stock investments • Tax strategies • Labor relations • Resource allocations • Lending decisions • Borrowing

4. Three primary financial statements. Balance Sheet Income Statement Statement of Cash Flows We will use a corporation to describe these statements. Introduction to Financial Statements

5. Describes where the enterprise stands at a specific date. Balance Sheet Income Statement Statement of Cash Flows Introduction to Financial Statements

6. Balance Sheet Depicts the revenue and expenses for a designated period of time. Income Statement Statement of Cash Flows Introduction to Financial Statements

7. Introduction to Financial Statements Revenues result in positive cash flow. Expenses result in negative cash flow. Either in the past, present, or future.

8. Balance Sheet Net income (or net loss) is simply the difference between revenues and expenses. Income Statement Statement of Cash Flows Introduction to Financial Statements

9. Balance Sheet Income Statement Statement of Cash Flows Depicts the ways cash has changed during a designated period of time. Introduction to Financial Statements

10. A Starting Point: Statement of Financial Position

11. The Concept of the Business Entity A business entity is separate from the personal affairs of its owner. Vagabond Travel Agency

12. Assets Assets are economic resources that are owned by the business and are expected to provide positive future cash flows.

13. Liabilities Liabilities are debts that represent negative future cash flows for the enterprise.

14. Owners’ Equity Owners’ equity represents the owners’ claims to the assets of the business.

15. Payments to Owners • Business Losses • Owners’ Investments • Business Earnings Owners’ Equity Changes in Owners’ Equity

16. The Accounting Equation Assets = Liabilities + Owners’ Equity $300,000 = $80,000 + $220,000

17. The Need forFinancial Statements

18. Financial Disclosure Benefits • Enhances decision-making • Reduces risk • Reduces risk lowers cost

19. Three Primary Financial Statements • Balance Sheet • Income Statement • Statement of Cash Flows

20. The Balance Sheet

21. The Balance Sheet

22. Three categories: • Assets • Liabilities • Owners’ Equity The Balance Sheet Presents the financial position of a company at a particular point in time.

23. Assets Probablefuture economic benefits obtained or controlled by a particular entity as a result of past transactions or events. likely to occur

24. Assets Probablefuture economic benefits obtained or controlled by a particular entity as a result of past transactions or events. assets have implications for the future

25. Assets Probablefuture economic benefits obtained or controlled by a particular entity as a result of past transactions or events. substance rules over legal form

26. Assets Probablefuture economic benefits obtained or controlledby a particular entity as a result of past transactions or events.

27. Liabilities Probable future sacrifices of economic benefits arising from present obligations of a particular entity to transfer assets or provide services to other entities in the future as a result of past transactions or events. includes legal and implied commitments

28. Liabilities Probable future sacrifices of economic benefits arising from present obligations of a particular entity to transfer assets or provide servicesto other entities in the future as a result of past transactions or events. the obligation can involve either type of future event

29. Liabilities Probable future sacrifices of economic benefits arising from present obligations of a particular entity to transfer assets or provide services to other entities in the future as a result of past transactions or events. have already happened

30. Liabilities Probable future sacrifices of economic benefits arising from present obligations of a particular entity to transfer assets or provide services to other entities in the future as a result of past transactions or events.

31. Owners’ Equity The residual interest in the assets of an entity that remains after deducting liabilities • Also known as net assets • Creditors legally have first claim to assets • The owners’ equity of a corporation is referred to as stockholders’ equity

32. Owners’ Equity Factors Impacting the Amount of Owners’ Equity DECREASE Owners’ Equity INCREASE Owners’ Equity Owners Withdraw Assets Company Suffers a Loss Owners Invest Assets Company Generates a Profit

33. Owners’ Equity: Two Primary Components Paid-in Capital The value of assets contributed by investors in exchange for shares of stock Retained Earnings The cumulative earnings of the company not paid to owners as dividends

34. The Balance Sheet Format A classified balance sheet distinguishes between current and noncurrent categories for assets and liabilities • Current assets are more liquid than other assets • Current liabilities are repaid usually within one year

35. The Accounting Equation The balance sheet is a detailed version of the accounting equation ASSETS = LIABILITIES + STOCKHOLDERS’ EQUITY

36. Balance Sheet Conceptsand Conventions • The entity concept requires that the records of the business must be kept separate from the personal finances of the owner. • Under the historical cost convention, assets and liabilities are recorded at their original costs and are not adjusted for changes in value.

37. Balance Sheet Conceptsand Conventions • The going concern assumption presumes that the business will continue for the foreseeable future

38. The Income Statement

39. The Income Statement

40. Reports • Revenues • Expenses • Net Income The Income Statement Describes a company’s financial performance for a specified period of time

41. Elements of the Income Statement • Revenue is the amount of assets created through the performance of business operations • Retailers generate revenue by selling goods • Service businesses generate revenue by providing a valuable service

42. Elements of the Income Statement • Expenses are the amount of assets consumed from the performance of business operations • Gains and losses refer to money made or lost on activities outside the normal business operations • Net income (loss) is the difference between revenues and expenses

43. Elements of the Income Statement • Earnings per share represents how much income belongs to the owner of one share of stock

44. Income Statement Conceptsand Conventions • Time Period • The life of a business is divided into time periods to measure performance • Revenue recognition occurs when • The goods have been delivered or the service has been provided and • Cash has been collected or collection is reasonably assured

45. The Statement ofCash Flows

46. Describes a company’s cash flows for a specified period of time The Statement of Cash Flows

47. The Statement of Cash Flows • Classifies individual cash flows according to three main activities: • Operating activities • Investing activities • Financing activities

48. Inflows/Receipts: Selling products Providing services Outflows/Payments: Inventory Wages Utilities Rent Interest Taxes, etc. Operating Activities Producing and Selling Goods and Services Day-to-Day Activities

49. Inflows/Sale of: Land Buildings Equipment Stocks of other companies Outflows/Purchase of: Land Buildings Equipment Stocks of other companies Investing Activities Buying and Selling Long-Term Assets

50. Inflows/Receipts: Sell stock shares Loan proceeds Outflows/Payments: Repay loans Acquire treasury stock Pay cash dividends Financing Activities Cash to/from Creditors and Investors