The Financial Statements
Chapter 1
The Language of Business
Accounting is an information
system
Measures business activities
pertinent to an entity
Processes data into reports
Communicates results to financial
statement users
Types of Accounting
FINANCIAL
Provides
information for
external users:
Investors
Creditors
Government
agencies
The public
MANAGEMENT
Provides information
for internal users managers of the
company
Budgets
Product cost data
Proprietorship
Single owner
Legally, business is
not separate from its
owner
Owner is personally
liable for business
debts
Business records are
kept
separate from
personal records of
the owner
Partnership
Two or more owners
Each partner is
personally liable
for all of the
debts of the
business
Limited Liability Company (LLC)
Owners are called
members
Members are not
personally liable
for business debts
No income taxes
on profits
Reduces members risk
to amount of each
members investment
Corporations
Owners are called stockholders
because of their ownership through
stock
Stockholders elect Board of Directors
Board sets policy and appoints officers
Corporations
Legally distinct entity from its owners
Stockholders not personally liable for
corporate debts
Formed under state law
Pays income taxes
Stockholders pay taxes on dividends
GAAP
GAAP is an acronym for
Generally Accepted Accounting
Principles
GAAP is:
rule based
17,000 pages long
FASB
U.S. GAAP is
formulated by the Financial
Accounting Standards Board (FASB)
created in 1973
7 members, 60+ staf
Norwalk, Connecticut
International Financial
Accounting Standards
The IASB (founded in 2001, 15 members,
London) developed IFRS (International
Financial Reporting Standards)
principle based
2,500 pages
International Financial
Accounting Standards
Best guess is that the SEC will require
U.S. public companies to adopt IFRS by
2015
GAAP Assumptions & Principles
Entity assumption
A business is a separate economic unit
Continuity (going-concern) assumption
Entity will continue to exist indefinitely
Historical cost principle
Assets recorded at purchase price
Stable monetary unit assumption
No hyperinflation
Move towards Fair Value
Fair value is the price received if
something were sold in an orderly
transaction between independent
market participants
The Accounting Equation
Assets = Liabilities + Owners Equity
Liabilities
Assets
Owners
Equity
Assets
Economic resources that provide
future benefits
Liabilities
Outsiders claims to assets
Accounts payable liability for goods or
services purchased on credit
Notes payable written promise to pay on a
certain date (bank loan)
Owners Equity
Owners claim on the assets
Assets minus liabilities
- whats left after debts are paid
A corporations equity is called
stockholders equity
Stockholders Equity
Paid-in capital
Amounts invested
by stockholders
Common stock
Retained
Earnings
Amounts earned
and kept for use in
the company
Increased by
Revenues
Decreased by
Expenses
Net Income
Revenues
Earned by selling goods or services
Expenses
Costs of doing business (e.g., rent, utilities)
Revenues minus expenses equal
net income
Dividends
Distributions of assets
(usually cash) to shareholders
Decrease Retained Earnings
Do NOT impact net income
The Financial Statements
A vehicle to report the
results of a business to
the public
The Income Statement
Measures operating
performance for a period
Reports revenue and
expenses
and the net income (or
loss)
Answers the question: How
well did the company do
this year
Statement of Retained Earnings
Shows increases and
decreases to retained
earnings for a period
Increase: net
income
Decrease:
dividends paid
Answers the question:
Why did a companys
retained earnings
change during a
period
Balance Sheet
Answers the question: What
is the companys financial
position as of a certain
date
Reports assets, liabilities and
shareholders equity
Assets and liabilities are
categorized as current and
long-term
Balance Sheet Categories
Current
assets
Converted to
cash or used
within one year
Cash, Accounts
Receivable,
Inventory
Balance Sheet Categories
Long-term
assets
Property,
Plant and
Equipment;
Goodwill
Balance Sheet Categories
Current
liabilities
Obligations
due within
one year of
balance
sheet date
Accounts
Payable,
Salaries
Payable, Taxes
Payable
Balance Sheet Categories
Long-term
liabilities
Bonds
Payable
Balance Sheet Categories
Stockholders Equity
Paid-in Capital: Common Stock
Retained Earnings
Statement of Cash
Flows
Shows inflows and outflows
of cash for a period
Answers the question: How
much cash did the
company generate and
spend during the year
Cash Flow Categories
Operating
Cash generated from day-to-day
business activities
Related to selling goods and services to
Investing
customers
Related to acquiring and disposing of
long-term assets
Cash Flow Categories
Financing
How a company obtains resources to
finance its business
Related to long-term debt and equity
(issuing stock)
Relationships of Financial Statements
