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© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
1-1
Financial Accounting
John J. Wild
4th Edition
John J. Wild
4th Edition
Information for DecisionsInformation for Decisions
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
Chapter 1
Introducing Accounting
in Business
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
1-3
Conceptual Chapter Objectives
C1: Explain the purpose and importance of accounting in the information age
C2: Identify users and uses of accountingC3: Identify opportunities in accounting and
related fieldsC4: Explain why ethics are crucial in
accountingC5: Explain the meaning of GAAP, and define
and apply several key accounting principles
C6: Appendix 1B: Identify and describe the three major activities in organizations
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
1-4
Analytical Chapter Objectives
A1: Define and interpret the accounting equation and each of its components
A2: Analyze business transactions using the accounting equation
A3: Compute and interpret return on assets
A4: Appendix 1A: Explain the relationship between return and risk
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
1-5
Procedural Chapter Objectives
P1: Identify and prepare basic financial statements and explain how they interrelate
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
1-6
IdentifiesIdentifies
RecordsRecords
CommunicatesCommunicatesRelevantRelevant
ReliableReliable
ComparableComparable
Importance of Accounting
AccountingAccountingis a
system that
information
that is
to help users make better decisions.
to help users make better decisions.
C1
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
1-7
Identifying Business Activities
Recording Business Activities
Communicating Business Activities
Accounting ActivitiesC 1
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
1-8
Users of Accounting Information
External Users
•Lenders
•Shareholders
•Governments
•Consumer Groups
•External Auditors
•Customers
Internal Users
•Managers
•Officers/Directors
•Internal Auditors
•Sales Staff
•Budget Officers
•Controllers
C 2
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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Users of Accounting Information
External Users
Financial accounting provides external users with financial
statements.
Internal Users
Managerial accounting provides information needs for internal
decision makers.
C 2
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
1-10
Opportunities in Accounting
FinancialFinancial
•Preparation•Analysis•Auditing•Regulatory•Consulting•Planning•Criminal investigation
•Preparation•Analysis•Auditing•Regulatory•Consulting•Planning•Criminal investigation
ManagerialManagerial
•General accounting •Cost accounting•Budgeting•Internal auditing•Consulting•Controller•Treasurer•Strategy
•General accounting •Cost accounting•Budgeting•Internal auditing•Consulting•Controller•Treasurer•Strategy
TaxationTaxation
•Preparation•Planning•Regulatory•Investigations•Consulting•Enforcement•Legal services•Estate plans
•Preparation•Planning•Regulatory•Investigations•Consulting•Enforcement•Legal services•Estate plans
Accounting-related
Accounting-related
•Lenders•Consultants•Analysts•Traders•Directors•Underwriters•Planners•Appraisers
•Lenders•Consultants•Analysts•Traders•Directors•Underwriters•Planners•Appraisers
•FBI investigators•Market researchers•Systems designers•Merger services•Business valuation•Human services•Litigation support•Entrepreneurs
•FBI investigators•Market researchers•Systems designers•Merger services•Business valuation•Human services•Litigation support•Entrepreneurs
C 3
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
1-11
Accounting Jobs by Area
Government, not-for-profit, & education
15%
Public accounting
25%
Private accounting
60%
C 3
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
1-12
Beliefs that distinguish right from
wrong
Accepted standards of good and bad
behavior
Ethics
Ethics—A Key ConceptC 4
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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Identify ethical concerns
Analyze options
Make ethical decision
Use personal ethics to
recognize ethical concern.
Consider all good and bad
consequences.
Choose best option after weighing all
consequences.
Guidelines for Ethical Decisions
C 4
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
1-14
Financial accounting practice is governed by concepts and rules known as generally accepted accounting principles (GAAP).
Financial accounting practice is governed by concepts and rules known as generally accepted accounting principles (GAAP).
Generally Accepted Accounting Principles
Relevant Information
Relevant Information
Affects the decision of its users.
Affects the decision of its users.
Reliable InformationReliable Information Is trusted by users.
Is trusted by users.
C 5
Comparable Information
Comparable Information
Used in comparisons across years & companies.
Used in comparisons across years & companies.
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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The Securities and Exchange Commission is the government group that establishes reporting requirements for companies that issue stock to the public.
The Securities and Exchange Commission is the government group that establishes reporting requirements for companies that issue stock to the public.
Setting Accounting Principles
Financial Accounting Standards Board is the private group that sets both broad and specific principles.
Financial Accounting Standards Board is the private group that sets both broad and specific principles.
C 5
The International Accounting Standards Board (IASB) issues inter-national standards that identify preferred accounting practicesin other countries. The IASB does not have authority to imposeits standards on companies.
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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Principles of Accounting
Now Future
Going-Concern PrincipleReflects assumption that the
business will continue operating instead of being closed or sold.
Cost PrincipleAccounting information is
based on actual cost.
Objectivity PrincipleAccounting information is supported by independent,
unbiased evidence.
C 5
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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Principles of Accounting
Revenue Recognition Principle1. Recognize revenue when it is
earned.2. Proceeds need not be in cash.3. Measure revenue by cash
received plus cash value of items received.
Monetary Unit PrincipleExpress transactions and events in
monetary, or money, units.
Business Entity PrincipleA business is accounted for
separately from other business entities, including its owner.
C 5
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
1-18
Business Entity Forms
Sole Proprietorship
Sole Proprietorship
PartnershipPartnership CorporationCorporation
C 5
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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* Proprietorships and partnerships that are set up as LLC’s provide limited liability.
* Proprietorships and partnerships that are set up as LLC’s provide limited liability.
Characteristics of Businesses
Characteristic Proprietorship Partnership CorporationBusiness entity yes yes yesLegal entity no no yesLimited liability no no yesUnlimited life no no yesBusiness taxed no no yesOne owner allowed yes no yes
Characteristic Proprietorship Partnership CorporationBusiness entity yes yes yesLegal entity no no yesLimited liability no no yesUnlimited life no no yesBusiness taxed no no yesOne owner allowed yes no yes
**
C 5
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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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).
CorporationC 5
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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AssetsLiabilities & Equity
Accounting Equation
LiabilitiesLiabilities EquityEquityAssetsAssets = +
A1
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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LandLand
EquipmentEquipment
BuildingsBuildings
CashCash
VehiclesVehicles
Store Supplies
Store Supplies
Notes Receivable
Notes Receivable
Accounts Receivable
Accounts Receivable
Resources owned or controlled
by a company
Resources owned or controlled
by a company
AssetsA1
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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Taxes Payable
Taxes Payable
Wages Payable
Wages Payable
Notes Payable
Notes Payable
Accounts Payable
Accounts Payable
Creditors’ claims on
assets
Creditors’ claims on
assets
LiabilitiesA1
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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Owner’sclaim on
assets
Owner’sclaim on
assets
DividendsDividends
Contributed Capital
Contributed Capital
Retained Earnings
Retained Earnings
EquityA1
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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LiabilitiesLiabilities EquityEquityAssetsAssets = +
Expanded Accounting Equation
RevenuesRevenues ExpensesExpensesCommon
StockCommon
StockDividendsDividends__ ++ __
Retained Earnings
LiabilitiesLiabilities EquityEquityAssetsAssets = +
A1
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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Transaction Analysis Equation
The accounting equation MUST remain in balance after each transaction.
LiabilitiesLiabilities EquityEquityAssetsAssets = +
A2
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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Transaction Analysis
The accounts involved are:
(1) Cash (asset)
(2) Common Stock (equity)
J. Scott invests $20,000 cash to start the business in exchange for stock.
A2
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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Transaction Analysis
J. Scott invests $20,000 cash to start the business in return for stock.
A2
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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The accounts involved are:
(1) Cash (asset)
(2) Supplies (asset)
Transaction Analysis
Purchased supplies paying $1,000 cash.
A2
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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Transaction Analysis
Purchased supplies paying $1,000 cash.
A2
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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The accounts involved are:
(1) Cash (asset)
(2) Equipment (asset)
Transaction Analysis
Purchased equipment for $15,000 cash.
A2
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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Transaction Analysis
Purchased equipment for $15,000 cash.
A2
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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The accounts involved are:
(1) Supplies (asset)
(2) Equipment (asset)
(3) Accounts Payable (liability)
Transaction Analysis
Purchased Supplies of $200 and Equipment of $1,000 on account.
A2
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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Transaction Analysis
Purchased Supplies of $200 and Equipment of $1,000 on account.
A2
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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Transaction Analysis
Borrowed $4,000 from 1st American Bank.
A2
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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Transaction Analysis
The balances so far appear below. Note that the Balance Sheet Equation is still in balance.
A2
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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Transaction Analysis
Now, let’s look at transactions involving revenue, expenses and
dividends.
A2
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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The accounts involved are:
(1) Cash (asset)
(2) Revenues (equity)
Transaction Analysis
Provided consulting services receiving $3,000 cash.
A2
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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Transaction Analysis
Provided consulting services receiving $3,000 cash.
A2
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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The accounts involved are:
(1) Cash (asset)
(2) Salaries expense (equity)
Transaction Analysis
Paid salaries of $800 to employees.
Remember that the balance in the salaries expense account actually increases.
But, equity decreases because expenses reduce equity.
A2
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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Transaction Analysis
Remember that expenses decrease equity.
Paid salaries of $800 to employees.
A2
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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The accounts involved are:
(1) Cash (asset)
(2) Dividends (equity)
Transaction Analysis
Dividends of $500 are paid to shareholders.
Remember that the Dividend account actually increases.
But, equity decreases because dividends reduce equity.
A2
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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Transaction Analysis
Remember that dividends decrease equity.
Dividends of $500 are paid to shareholders.
A2
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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Financial Statements
Let’s prepare the Financial Statements reflecting the transactions we have recorded.
1. Income Statement
2. Statement of Retained Earnings
3. Balance Sheet
4. Statement of Cash Flows
1. Income Statement
2. Statement of Retained Earnings
3. Balance Sheet
4. Statement of Cash Flows
P1
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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Net income is the difference between
Revenues and Expenses.
Net income is the difference between
Revenues and Expenses.
The income statement describes a company’s revenues and expenses along with the resulting net income or loss over a period of time due to earnings activities.
The income statement describes a company’s revenues and expenses along with the resulting net income or loss over a period of time due to earnings activities.
Income StatementP1
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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The net income of $2,200 increases Retained Earnings by $2,200.
The net income of $2,200 increases Retained Earnings by $2,200.
Statement of Retained EarningsP1
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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The Balance Sheet describes a company’s financial position at a point in time.
The Balance Sheet describes a company’s financial position at a point in time.
Balance SheetP1
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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Statement of Cash FlowsP1
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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ROA is viewed as an indicator of operating
efficiency.
ROA is viewed as an indicator of operating
efficiency.
Return on Assets (ROA)
Net incomeAverage total assets
Return onassets
=
P1
© The McGraw-Hill Companies, Inc., 2008McGraw-Hill/Irwin
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End of Chapter 1