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Unformatted text preview: Chapter 1 AN INTRODUCTION TO FINANCIAL STATMENTS
1 Basic Business Questions:
How does a business measure success? How often and to whom do businesses report information? What is the stock market? What does CFO stand for? What is accounting fraud? What is corporate governance?
2 Why does Accounting Matter?
Accounting is the language of all businesses! Using accounting information business keep score of how well they are doing. By reporting positive or negative information, stock prices can change dramatically as well as an investor/creditors decision to do business with a company. 3 1
11 Forms of Business Organization Sole proprietorship Partnership Corporation 4 Sole Proprietorship Business owned by one person Simple to establish Owner controlled Tax advantages Owner personally liable Financing difficult
5 Partnership Two or more owners Simple to establish Shared control Broader skills & resources Tax advantages Personal liability
6 Corporation Separate legal entity owned by stockholders Easy to transfer ownership Greater capital raising potential Lower legal liability Unfavorable tax treatment
11 Users of Financial Information Internal Managers who plan, organize and run a business Marketing managers (product sales forecasts and budgets) Production supervisors (cost decisions for products Finance directors (borrowing $$ vs sale of more stock) Company officers (overall business decisions)
8 Users of Financial Information External Investors (stockholder’s) Creditors Others Regulatory agencies Tax authorities Customers Labor Unions Economic planners 9 3
11 Types of Business Activity Financing Investing Operating
10 Financing Activities Borrowing creates liabilities Bank loans Debt securities Selling stock creates stockholders’ equity
11 Investing Activities Obtaining resources or assets to operate the business Land Buildings Vehicles Computers Furniture Equipment 12 Operating Activities Primary activity of business Selling goods Providing services Manufacturing Cost of Sales Advertising Paying employees Paying utilities 13 Review
Which is not one of the three forms of Which business organization? business a. Sole proprietorship. Sole b. Creditorship. Creditorship. c. Partnership. d. Corporation. Corporation.
Which is an advantage of corporations Which relative to partnerships and sole proprietorships? proprietorships? a. Lower taxes. a. Lower b. Harder to transfer ownership b. Harder c. Reduced legal liability for investors. Reduced d. Most common form of business organization. organization. 15 Review
Which is not one of the three primary Which business activities? business a. Financing. Financing. b. Operating. b. Operating. c. Advertising. Advertising. d. Investing. Investing.
11 Content and Purpose of Financial Statements Accountants communicate with users through four financial statements 17 Four Financial Statements Income Statement Retained Earnings Statement Balance Sheet Statement of Cash Flows
18 Income Statement Reports operating success or failure for a period. Summarizes revenues and expenses for period: month, quarter, year. If revenue > expense = Net Income. If revenue < expense = Net Loss.
19 Income Statement
What companies do to generate revenues Apple sells computers and IPODs Best Buy sells and related items Costs related to revenues (expenses) Wages paid for workers Cost of inventory items sold Insurance
20 Business Revenue Examples
Walmart Goldberg & Osborne American Airlines Bank of America Taco Bell Time Warner ____________ ____________ ____________ ____________ ____________ ____________
21 Income Statement Do this statement first! 22 Retained Earnings Statement Shows changes in retained earnings for period: month, quarter, year Beginning balance Add Net Income (from income statement) Deduct Dividends = Ending balance 23 Retained Earnings Statement Do this statement second! 24 Balance Sheet Reports assets and claims to assets. Claims of creditors, liabilities. Claims of owners, stockholders’ equity. Assets = Liabilities + Stockholders’ Equity Specific date – one point in time!
25 Balance Sheet From From Retained Earnings Statement Statement
26 Statement of Cash Flows Provides information about cash receipts and cash payments Summarizes for period: month, quarter, year. Cash effects of operating, investing, and financing activities.
27 Statement of Cash Flows Where did the cash come from? How was cash used during the period? What was the change in the cash balance during the period? A company cannot survive without cash! 28 Statement of Cash Flows.. Agrees Agrees with with Balance Sheet Sheet 29 5
11 Assets (found on balance sheet) Resources owned by the business Cash Accounts receivable Inventories Furniture and fixtures Equipment Supplies 30 Liabilities (found on balance sheet) Obligations or debts of business (money owed to others) Notes payable Accounts payable Interest payable Salaries payable Unearned revenue
31 Stockholders’ Equity Owner’s claims on assets (found on balance sheet) Common stock Retained earnings 32 Basic Accounting Equation
Assets = Assets Liabilities + Stockholders’ Equity Liabilities 33 Review
What questions might each of the following What decision makers ask that could be answered by the financial statements … by Bank loan officer? Stock investor? Labor union president?
Which of the following is not a correct representation of the accounting equation? a. Assets = Liabilities + Stockholders’ Equity Assets = Liabilities + Stockholders’ Equity b. Assets Liabilities = Stockholders’ Equity Assets Liabilities = Stockholders’ Equity c. Assets + Stockholders’ Equity = Liabilities Assets + Stockholders’ Equity = Liabilities d. Assets Stockholders’ Equity = Liabilities Assets Stockholders’ Equity = Liabilities 35 Review
Using the accounting equation, answer the Using following question. following If Liabilities = $10,000 and Stockholders’ Equity = $20,000 Stockholders’ Then Assets = Then 36 Review
Using the accounting equation, answer the Using following question. following If Assets = $75,000 And Liabilities = $35,000 Then Stockholders’ Equity = 37 6
11 Supplements to the Financial Statements in an Annual Report Management Discussion and Analysis Notes to Financial Statements Auditor’s report
38 Management’s Discussion and Analysis 39 Notes to Financial Statements Explanatory notes and supplementary schedules Clarifies information in financial statements Expands with additional detail Describes accounting policies Explains uncertainties and contingencies 40 Notes to Financial Statements 41 Auditor’s Report Certified Public Accountant – CPA Auditor (CPA) conducts independent examination of financial statements Fair representation? Follow generally accepted accounting principles (GAAP)? Unqualified opinion
42 Auditor’s Report 43 Ethical Issues related to Accounting Tax issues when reported to IRS Accurate information on Financial statements – impact when fraud exists? Reasonable compensation of officers 44 Determine net income
Revenues Insurance Expense Rental Expense Supplies Expense Cash Supplies $17,000 $1,000 $9,000 $200 $1,400 $1,800
45 Calculate Ending Retained Earnings
Beginning Retained Earnings $400 Revenues $17,000 Expenses $10,200 Dividends $600 Where else do we use ending retained earnings in the financial statements? 46 ...
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