chapter3 - Management Accounting | 31 Financial Statements...

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Financial Statements for Manufacturing Businesses Importance of Financial Statements Accounting plays a critical role in decision-making. Accounting provides the financial framework for analyzing the results of an executed set of decisions and makes possible the continuous success of a business or improvement in operations. Secondly, accounting provides much of the necessary information needed in making good decisions. Thirdly, the management accountant provides a knowledge of basic decision-making tools that helps find the best alternative in decision-making. It is the accountant’s knowledge about preparing financial statements and his or her abilities to analyze and interpret financial statements that makes the controllership function in a business so valuable to management. However, it is also important for management to have a fundamental knowledge of financial statements, particularly regarding the analysis and evaluation of financial statements to make decisions. A primary objective of a business is to increase the assets from operations. By operations is meant all the revenue and expense transactions of a business for a defined period of time. Since the excess of revenue over expenses (net income) increases the equity of a business, it is often said that the primary objective is to increase stockholders’ wealth, assuming the business is a corporation. The success of a business in financial terms, then, depends on how well management manages revenues and expenses. In other terms, the decisions that management makes concerning the operations of the business are of paramount importance. Management has the responsibility to make the kinds of decisions that generates net income. Revenues are the inflow of assets caused by the operations of the business. The term revenue necessarily implies increases in assets. If a transaction does not cause an increase in an asset, then that transaction is not a revenue transaction. Following is a list of several types of items that fall under the category of revenue: Revenue Asset Inflow Sales Cash or Accounts receivable Interest Income Cash or interest receivable Rental income Cash or rent receivable
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32 | CHAPTER THREE Financial Statements for Manufacturing Business Expenses are the outflow of assets from the operations of the business. Expenses are caused by activities necessary to generate revenue. When revenues exceeds expenses as is the goal, the difference is called net income. If a transaction does not cause a decrease in an asset, then that transactions is not an expense. Following is a list of several expenses and the asset decrease associated with that particular expense. Expense Asset outflow Cost of goods sold Prepaid insurance Salaries Expired life of the service value Supplies expense Supplies Depreciation, building Expired cost of a building Technically, the asset outflow associated with salaries is not cash. Payments are made to workers and other employees because they create something of value. In more technical terms an expense is the expired value of an asset. A janitor is paid
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