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BASIC FINANCIAL
STATEMENTS
Chapter
2
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Introduction to Financial Statements
Three primaryfinancial
statements.Income Statement
Balance Sheet
Statement of Cash FlowsWe will use a corporation
to describe thesestatements.
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Introduction to Financial Statements
Describeswhere theenterprise
stands at aspecific date.
Income Statement
Balance Sheet
Statement of Cash Flows
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Introduction to Financial Statements
Depicts the
revenue andexpenses for a
designatedperiod of time.
Income Statement
Balance Sheet
Statement of Cash Flows
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Introduction to Financial Statements
Revenuesresult inpositive
cash flow.
Expensesresult innegative
cash flow.
Either in the past, present, or future.
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Introduction to Financial Statements
Net income (or
net loss) issimply thedifferencebetween
revenues andexpenses.
Income Statement
Balance Sheet
Statement of Cash Flows
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Introduction to Financial Statements
Depicts theways cash haschanged during
a designatedperiod of time.
Income Statement
Balance Sheet
Statement of Cash Flows
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Vagabond Travel Agency
Balance Sheet
ecember 31, 2005
Assets Liabilities & Owners' Equity
Cash 22,500$ Liabilities:
otes receivable 10,000 otes payable 41,000$
Accounts receivable 60,500 Accounts payable 36,000
Supplies 2,000 Salaries payable 3,000
Land 100,000 Total liabilities 80,000$
Building 90,000 Owners' Equity:
Office equipment 15,000 Capital stock 150,000
etained earnings 70,000
Total 300,000$ Total 300,000$
A Starting Point: Statement ofFinancial Position
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The Concept of the Business Entity
VagabondTravel
Agency
A business
entity isseparate fromthe personal
affairs of itsowner.
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Vagabond Travel Agency
Balance Sheet
ecember 31, 2005
Assets Liabilities & Owners' Equity
Cash 22,500$ Liabilities:
otes receivable 10,000 otes payable 41,000$
Accounts receivable 60,500 Accounts payable 36,000
Supplies 2,000 Salaries payable 3,000
Land 100,000 Total liabilities 80,000$
Building 90,000 Owners' Equity:
Office equipment 15,000 Capital stock 150,000
etained earnings 70,000
Total 300,000$ Total 300,000$
Assets
Assets areeconomic resources
that are owned by
the business andare expected toprovide positive
future cash flows.
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Assets
Cost Principle
Going-ConcernAssumption
ObjectivityPrinciple
Stable-DollarAssumption
These accountingprinciples supportcost as the basis
for asset valuation.
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Vagabond Travel Agency
Balance Sheet
ecember 31, 2005
Assets Liabilities & Owners' Equity
Cash 22,500$ Liabilities:
otes receivable 10,000 otes payable 41,000$
Accounts receivable 60,500 Accounts payable 36,000
Supplies 2,000 Salaries payable 3,000
Land 100,000 Total liabilities 80,000$
Building 90,000 Owners' Equity:
Office equipment 15,000 Capital stock 150,000
etained earnings 70,000
Total 300,000$ Total 300,000$
Liabilities
Liabilities aredebts that
represent negative
future cash flowsfor the enterprise.
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Vagabond Travel Agency
Balance Sheet
ecember 31, 2005
Assets Liabilities & Owners' Equity
Cash 22,500$ Liabilities:
otes receivable 10,000 otes payable 41,000$
Accounts receivable 60,500 Accounts payable 36,000
Supplies 2,000 Salaries payable 3,000
Land 100,000 Total liabilities 80,000$
Building 90,000 Owners' Equity:
Office equipment 15,000 Capital stock 150,000
etained earnings 70,000
Total 300,000$ Total 300,000$
Owners Equity
Owners equityrepresents the
owners claims to
the assets of thebusiness.
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Owners Equity
Changes in OwnersEquity
OwnersInvestments
BusinessEarnings
Paymentsto Owners
BusinessLosses
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Vagabond Travel Agency
Balance Sheet
ecember 31, 2005
Assets Liabilities & Owners' Equity
Cash 22,500$ Liabilities:
otes receivable 10,000 otes payable 41,000$
Accounts receivable 60,500 Accounts payable 36,000
Supplies 2,000 Salaries payable 3,000
Land 100,000 Total liabilities 80,000$
Building 90,000 Owners' Equity
Office equipment 15,000 Capital stock 150,000
etained earnings 70,000
Total 300,000$ Total 300,000$
The Accounting Equation
Assets = Liabilities + Owners Equity
$300,000 = $80,000 + $220,000
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Lets analyze
sometransactions forJJs Lawn Care
Service.
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JJ's awn Care Service
Balance Sheet
May 1, 2005
AssetsCash 8,000$ Capital Stock 8,000$
Total 8,000$ Total 8,000$
Owners' Equity
On May 1, 2005, Jill Jones and herfamilyinvested $8,000 in JJs awn Care Service and
received 800 shares ofstock.
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JJ's awn Care Service
Balance Sheet
May 2, 2005
AssetsCash 5,500$ Capital Stock 8,000$
Tools & Equipment 2,500
Total 8,000$ Total 8,000$
Owners' Equity
On May 2, JJs purchased a riding lawn
mowerfor $2,500 cash.
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On May 8, JJs purchased a $15,000 truck.
JJs paid $2,000 down in cash and issued a note payablefor the remaining $13,000.
JJ 's La w n Ca re Se rvice
Ba lance Sh e e t
M a y 8, 2005
Asse tsCa sh 3,500$ Liabilities:
Tools &Equipm e nt 2,500 Note s a ya ble 13,000$
Truck 15,000 O w n e r s'Equity:
Capi ta l Stock 8,000
Tota l 21,000$ Tota l 21,000$
Liab i l ities a nd O w ne rs'Equity
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JJ's Lawn Care Service
Balance Sheet
May 11, 2005
AssetsCash 3,500$ Liabilities:
Tools & Equipment 2,800 Notes Payable 13,000$
Truck 15,000 Accounts Payable 300
Total Liabilities 13,300$
Owners' Equity:Capital Stock 8,000
Total 21,300$ Total 21,300$
Liabilities and Owners' Equity
On May 11, JJs purchased some repair
parts for $300 on account.
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JJ'sL wn vi
l n h t
y ,
AssetsCash , Liabilities:
A ounts Receivable 150 Notes ayable 13,000$
Tools quip ent ,650 Accounts ayable 300
T uck 15,000 Total Liabilities 13,300$
Owners' quity:Capital tock 8,000
Total 1,300$ Total 1,300$
Liabilitiesand Owners' quity
Jill realized she had purchased orerepairparts than needed.
On ay 18, JJs wasable tosell halfoftherepairparts toA CLawnsfor$150, a priceequal toJJscost. JJs will receive thecash within30 days.
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JJ's Lawn Care Service
Balance Sheet
May 25, 2005
AssetsCash 3,575$ Liabilities:
Accounts eceivable 75 Notes Payable 13,000$
Tools & Equipment 2, 50 Accounts Payable 300
Truck 15,000 Total Liabilities 13,300$
Owners' Equity:Capital Stock 8,000
Total 21,300$ Total 21,300$
Liabilities and Owners' Equity
On May 25, ABCLawns pays JJs $75 as a partial
settlement ofits accounts receivable.
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JJ's Lawn Care Service
Balance Sheet
May 28, 2005
AssetsCash 3,425$ Liabilities:
Accounts eceivable 75 Notes Payable 13,000$
Tools & Equipment 2, 50 Accounts Payable 150
Truck 15,000 Total Liabilities 13,150
Owners' Equity:Capital Stock 8,000
Total 21,150$ Total 21,150$
Liabilities and Owners' Equity
On May 28, JJs pays $150 ofits accounts
payable.
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JJ's Lawn Care Service
Balance Sheet
May 29, 2005
AssetsCash 4,175$ Liabilities:
Accounts eceivable 75 Notes Payable 13,000$
Tools & Equipment 2, 50 Accounts Payable 150
Truck 15,000 Total Liabilities 13,150
Owners' Equity:Capital Stock 8,000
etained Earnings 750
Total 21,900$ Total 21,900$
Liabilities and Owners' Equity
On May 29, JJs recorded lawn care servicesprovided during May of$750. All clients paid in
cash.
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JJ's Lawn Care Service
Balance Sheet
May 31, 2005
AssetsCash 4,125$ Liabilities:
Accounts eceivable 75 Notes Payable 13,000$
Tools & Equipment 2, 50 Accounts Payable 150
Truck 15,000 Total Liabilities 13,150
Owners' Equity:Capital Stock 8,000
etained Earnings 700
Total 21,850$ Total 21,850$
Liabilities and Owners' Equity
Now, lets review how JJs transactions
affected the accounting equation.
On May 31, JJs purchased gasoline for the
lawn mower and the truck for $50 cash.
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JJ's Lawn Care Service
Income StatementFor the Month Ended May 31, 2005
Sales Revenue 750$
Operating Expense:
Gasoline Expense 50
Net Income 700$
Investments by and payments to the ownersare not included on the Income Statement.
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Statement of Cash Flows
For the Month Ended May 31, 2005
Cash flows from operating activities:Cash received from revenue transactions 750$
Cash paid for expenses (50)
Net cash provided by operating activities 700$
Cash flows from investing activities:
Purchase of lawn mower (2,500)$Purchase of truck (2,000)
Collection for sale of repair parts 75
Payment for repair parts (150)
Net cash used by investing activities (4,575)
Cash flows from financing activities:Investment by owners 8,000
Increase in cash for month 4,125$
Cash balance, May 1, 2005 -
Cash balance, May 31, 2005 4,125$
Operating activities include the casheffects of revenue and expense
transactions.
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Statement of Cash Flows
For the Month Ended May 31, 2005
Cash flows from operating activities:Cash received from revenue transactions 750$
Cash paid for expenses (50)
Net cash provided by operating activities 700$
Cash flows from investing activities:
Purchase of lawn mower (2,500)$Purchase of truck (2,000)
Collection for sale of repair parts 75
Payment for repair parts (150)
Net cash used by investing activities (4,575)
Cash flows from financing activities:Investment by owners 8,000
Increase in cash for month 4,125$
Cash balance, May 1, 2005 -
Cash balance, May 31, 2005 4,125$
Investing activities include the casheffects of purchasing and selling
assets.
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Statement of Cash Flows
For the Month Ended May 31, 2005
Cash flows from operating activities:Cash received from revenue transactions 750$
Cash paid for expenses (50)
Net cash provided by operating activities 700$
Cash flows from investing activities:
Purchase of lawn mower (2,500)$Purchase of truck (2,000)
Collection for sale of repair parts 75
Payment for repair parts (150)
Net cash used by investing activities (4,575)
Cash flows from financing activities:Investment by owners 8,000
Increase in cash for month 4,125$
Cash balance, May 1, 2005 -
Cash balance, May 31, 2005 4,125$
Financing activities include the casheffects of transactions with the owners
and creditors.
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Cash ,12$ Notes payable 13,$
Accounts receivable Accounts payable 1Tools & equipment 2,
Truck 1 , Capital stock ,
Retained earnings
Total assets 21,$ Total liabilities & equity 21,$
Assets L ties
Owners' Equity
JJ's L wn Care Service
Balance Sheet
May 31, 2005
Assets = Liabilities + Owners Equity
$21,850 = $13,150 + $8,700
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Relationships Among FinancialStatements
Date atbeginningof period
Date atend ofperiod
BalanceSheet
BalanceSheet
Time
Income Statement
Statement of Cash Flows
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Financial Reporting and FinancialStatements
Statement
of Cash
Flows
BalanceSheet
Income
Statement
Other Information:
Industry
Competition
National economy
Financial statements are
just one source of financial
accountinginformation.
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Forms of Business Organizations
SoleProprietorship
Partnership Corporation
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The Use of Financial Statements byExternal Parties
Creditors
Investors
Two concernsLiquidity
Profitability
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The Need forAdequate Disclosure
Notes to thefinancial
statements oftenprovide facts
necessary for theproper
interpretation ofthe statements.
Income Statement
Balance Sheet
Statement of Cash Flows
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Managements Interest in FinancialStatements
Creditors are more likely to extend credit if financial
statements show a strong statement of financial
positionthat is relatively little debt and large
amounts of liquid assets.
Window dressing occurs when management takes
measures to make the company appear as strong
as possible init financial statements.
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End of Chapter 2
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Assignment # 1Q#1
The night manager of Dixie
Transportation Service, who had
no accounting background,
prepared the following balance
sheet for the company at
February 28, 2007. The dollaramounts were taken directly
from the companys accounting
records and are correct.
However, the balance sheet
contains a number of errors in its
headings, format, and the
classification of assets, liabilities,
and owners equity.
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Assignment # 1Q#2
Recommended