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Unformatted text preview: Chapter Chapter 2 Investing and Financing Decisions and the Balance Sheet ACCT 2010 Fall 2011 Allen Huang Chapter Two Slide 1 Balance Sheet Chapter Two Slide 2 Balance Sheet Chapter Two Slide 3 Income Statement Chapter Two Slide 4 Statement of Stockholders’ Equity Chapter Two Slide 5 Statement of Cash Flow Chapter Two Slide 6 Statement of Cash Flow Chapter Two Slide 7 Relationship Among the Statements MAXIDRIVE CORP. Income Statement For the Year Ended December 31, 2009 (in thousands of dollars) Revenues Sales revenue Expenses Cost of goods sold $ 26,980 Selling, general and administrative 3,624 Research and development 1,982 Interest expense 450 Total expenses Pretax income Income tax expense Net i ncome Net income $ 37,436 Net income from the income statement increases ending retained earnings on the statement of retained earnings. 33,036 $ 4,400 1,100 $ 3, 300 MAXIDRIVE CORP. Statement of Retained Earnings For the Year Ended December 31, 2009 (in thousands of dollars) Retained earnings, January 1, 2009 $ 6,805 Net income for 2009 3,300 Dividends for 2009 (1,000) Retained earnings, December 31, 2009 $ 9,105 Chapter Two Slide 8 Relationship Among the Statements MAXIDRIVE CORP. Balance Sheet At December 31, 2009 (in thousands of dollars) Assets Cash Accounts receivable Inventories Plant and equipment Land Total assets Liabilities and Stockholders' Equity Liabilities Accounts payable $ 4, 895 5,714 8,517 7,154 981 $ 27,261 $ 7,156 Notes payable 9,000 Total l iabilities liabilities $ 16, 156 S tockholders' Equity Contributed capital Retained earnings Total stockholders' equity $ 2,000 9,105 11,105 Total liabilities and stockholders' equity $ 27,261 Ending retained earnings from the statement of retained earnings is one of the components of stockholders’ equity on the balance sheet. MAXIDRIVE CORP. State me nt of Reta ined Ea rnings For the Year Ended December 31, 2009 (in thousands of dollars) Retained earnings, January 1, 2009 $ 6,805 Net income for 2009 3,300 Dividends for 2009 (1,000) Retained earnings, December 31, 2009 $ 9,105 Chapter Two Slide 9 Relationship Among the Statements MAXIDRIVE CORP. Balance Sheet At December 31, 2009 (in thousands of dollars) Assets MAXIDRIVE CORP. Statement of Cash Flows For the Year Ended December 31, 2009 (in thousands of dollars) Cash Accounts receivable Inventories Plant and equipment Land Total assets Liabilities and Stockholders' Equity Liabilities Accounts payable Notes payable $ 4,895 5,714 8,517 7,154 981 $ 27,261 $ 7,156 9,000 Total liabilities Stockholders Equity Stockholders' Equity Contributed capital Retained earnings Total stockholders' equity Total liabilities and stockholders' equity $ 16,156 Cash flows from operating activities: Cash collected from customers Cash paid to suppliers and employees Cash paid for interest Cash paid for taxes Net cash flow from operating activities Cash flow from investing activities: Cash paid to purchase equipment Net cash flow from investing activities Cash flow from financing activities: Cash received from bank loan Cash paid for dividends paid for dividends $ 2,000 9,105 $ 33,563 (30,854) (450) (1,190) $ $ (1,625) (1,625) $ 1,400 (1,000) Net cash flow from financing activities 11,105 $ 27,261 Net decrease in cash during the year 400 $ (156) $ 4,895 Cash at beginning of the year Cash at end of the year 1,069 5,051 The change in cash on the statement of cash flows added to the beginning of the year balance in cash equals the ending balance in cash on the balance sheet. Chapter Two Slide 10 Relationship Among the Statements B/S: Assets = Liabilities + Stockholders’ Equity Cash + Other assets = Liab + (Cont. Capital + Retained Earnings) ΔCash + ΔOther Assets = ΔLiab + (ΔCont.Capital + ΔRE) SCF: CFO + CFI + CFF = ΔCash SRE: Beg. RE + NI – Dividends = End. RE ΔRE = NI – Dividends I/S: Revenue – Expense = Net Income Chapter Two Slide 11 Chapter Learning Objectives 1. The conceptual framework relevant to the balance sheet. 2. Identify what constitutes a business transaction and identify common balance sheet account titles used in business. titl 3. Apply transaction analysis to simple business transactions in terms of the accounting model Assets = Liabilities + Stockholders' Equity. 4. Determine the impact of business transactions on the balance sheet using two basic tools, journal entries and T-accounts. 5. Identify investing and financing transactions and demonstrate how they are reported on the statement of cash flows. Chapter Two Slide 12 The Conceptual Framework Objective of External Financial Reporting To provide useful economic information to external users for decision making and for assessing future cash flows. fl Qualitative Characteristics Elements of Statements Relevancy Asset Reliability Liability Comparability Stockholders’ Equity Consistency Revenue Expense Gain Loss Chapter Two Slide 13 The Conceptual Framework Objective of External Financial Reporting To provide useful economic information to external users for decision making and for assessing future cash flows. fl Qualitative Characteristics Relevancy Reliability Comparability Consistency Chapter Two Primary Characteristics •Relevancy: predictive value, feedback value, and timeliness. •Reliability: verifiability, representational faithfulness, and neutrality. Secondary Characteristics •Comparability: across companies. •Consistency: over time. Slide 14 The Conceptual Framework Objective of External Financial Reporting To provide useful economic information to external users for decision making and for assessing future cash flows for decision making and for assessing future cash flows. Asset: economic resource with probable future benefit. Liability: probable future sacrifices of economic resources. Stockholders’ Equity: financing provided by owners and operations. Revenue: increase in assets or settlement of liabilities from ongoing operations. Expense: decrease in assets or increase in liabilities from ongoing operations. Gain: increase in assets or settlement of liabilities from peripheral activities. Loss: decrease in assets or increase in liabilities from peripheral activities. Elements of Statements Asset Liability Stockholders’ Equity Equity Revenue Expense Gain Loss Chapter Two Slide 15 The Conceptual Framework Assumptions Separate entity: Activities of the business are separate from activities of owners. Continuity: The entity will not go out of business in the near future. Unit-of-measure: Accounting measurements will be in the national monetary unit (i.e., $ in the U.S.). Principle Historical cost: Cash equivalent cost given up is the basis for the initial recording of elements. Chapter Two Slide 16 Business Background To understand amounts appearing on a company’s balance sheet we need to answer these questions: What business activities cause changes in the balance sheet? How do specific activities affect each balance? How do companies keep track of balance sheet amounts? Chapter Two Slide 17 Nature of Business Transactions External events exchanges of assets events: and liabilities between the business and one or more other parties. Borrow cash from the bank Chapter Two Slide 18 Nature of Business Transactions Internal events not an exchange between events: the business and other parties, but have a direct effect on the accounting entity. Loss due to fire damage. Chapter Two Slide 19 Accounts An organized format used by companies to accumulate the dollar effects of transactions. While U.S. companies follow GAAP to prepare their financial statements, other countries have significant variations from the accounting and reporting rules of GAAP. Some countries use different account titles from Some countries use different account titles from U.S. companies. companies Companies also use different account titles. Chapter Two Slide 20 Typical Account Titles The Balance Sheet Assets Cash Short-Term Investment Accounts Receivable Inventory Supplies Prepaid Expenses Long-Term Investments PP&E Land Intangibles Liabilities Accounts Payable Notes Payable Taxes Payable Unearned Revenue Bonds Payable Stockholders’ Equity Contributed Capital Retained Earnings Chapter Two Slide 21 Typical Account Titles The Income Statement Revenues Sales Revenue Fee Revenue Interest Revenue Rent Revenue Chapter Two Expenses Cost of Goods Sold Wages Expense Rent Expense Interest Expense Depreciation Advertising Expense Insurance Expense Repair Expense Income Tax Expense Slide 22 Exercise: Classifying Accounts Polaroid Corporation designs, manufactures, and markets worldwide a variety of products primarily in instant image-recording fields, including instant photographic cameras and films, electronic imaging recording devices, conventional films, and light-polarizing filters and lenses. The following are accounts from a balance sheet for Polaroid: (1) (2) (3) (4) (5) Land Retained Earnings Taxes Payable Prepaid Expenses Expenses Contributed Capital (6) Long-Term Investments (7) Machinery and Equipment (8) Accounts Payable (9) Short-Term Investments Investments (10)Notes Payable (due in 3 years) For each account, indicate whether the account is classified as a current asset (CA), noncurrent asset (NCA), current liability (CL), noncurrent liability (NCL), or stockholders’ equity (SE). Chapter Two Slide 23 Exercise: Classifying Accounts Exxon Mobil Corporation explores, produces, refines, markets, and supplies crude oil, natural gas, and petroleum products in the US and around the world. The following are accounts from a recent balance sheet of Exxon Mobil Corporation: (1) Retained Earnings (2) Note and Loans Payable (Short-term) (3) Materials and Supplies (4) Long-Term Debt (5) Prepaid Taxes and Expenses Taxes and Expenses (6) Patents (an intangible asset) (7) Income Taxes Payable (8) Contributed Capital (9) Property, Plant and Equipment (10) Notes and Accounts Receivable (short-term) (11) Cash and Cash Equivalents (12) Accounts Payable Payable (13) Investments (long-term) (14) Crude Oil Products and Merchandise For each account, indicate whether the account is classified as a current asset (CA), noncurrent asset (NCA), current liability (CL), noncurrent liability (NCL), or stockholders’ equity (SE). Chapter Two Slide 24 Principles of Transaction Analysis Every transaction affects at least two accounts (duality of effects). The accounting equation must remain in balance after/for each transaction. A + SE ∆A = ∆L + ∆SE Chapter Two Slide 25 Duality of Effects Most transactions with external parties involve an exchange where the business entity both gives up something and something and receives something in return. Chapter Two Slide 26 Transaction Analysis Process • Accounts and effects 1. Identify the accounts affected and classify them by type of account (A, L, SE). 2. Determine the direction of the effect (increase or decrease) on each account. • Balancing 3. Verify that the accounting equation (∆A = ∆L + ∆SE) remains in balance. Chapter Two Slide 27 Balancing the Accounting Equation Let’s see how we keep the see how we keep the accounting equation in balance for Papa John’s. All amounts are in thousands of dollars. Chapter Two Slide 28 Papa John’s issues $2,000 of additional common stock to new investors for cash. Identify & Classify the Accounts 1. Cash (asset) 2. Contributed Capital (equity) Determine the Direction of the Effect 1. Cash increases. 2. Contributed Capital increases. Chapter Two Slide 29 Papa John’s issues $2,000 of additional common stock to new investors for cash. (a) Cash Investments 2,000 Effect Equip. 2,000 Notes Receivable Notes Payable = Contributed Capital 2,000 Retained Earnings 2,000 ∆A= ∆L + ∆SE Chapter Two Slide 30 The company borrows $6,000 from the local bank, signing a three-year note. Identify & Classify the Accounts 1. Cash (asset) 2. Notes Payable (liability) Determine the Direction of the Effect 1. Cash increases. 2. Notes Payable increases. Chapter Two Slide 31 The company borrows $6,000 from the local bank, signing a three-year note. (a) (b) Cash Investments 2,000 6,000 Effect Equip. 8,000 Notes Receivable Notes Payable Contributed Capital 2,000 Retained Earnings 6,000 = 8,000 ∆A= ∆L + ∆SE Chapter Two Slide 32 Papa John’s purchases $10,000 of new equipment, paying $2,000 in cash and signing a two-year note payable for the rest. Identify & Classify the Accounts 1. Equipment (asset) 2. Cash (asset) 3. Notes Payable (liability) Determine the Direction of the Effect 1. Equipment increases. 2. Cash decreases. 3. Notes Payable increases. Chapter Two Slide 33 Papa John’s purchases $10,000 of new equipment, paying $2,000 in cash and signing a two-year note payable for the rest. (a) (b) (c) Cash Investments 2,000 6,000 (2,000) Effect Equip. 16,000 Notes Receivable Notes Payable Contributed Capital 2,000 Retained Earnings 6,000 8,000 10,000 = 16,000 ∆A= ∆L + ∆SE Chapter Two Slide 34 Papa John’s lends $3,000 to new franchisees who sign five-year notes agreeing to repay the loan. Identify & Classify the Accounts 1. Cash (asset) 2. Notes Receivable (asset) Determine the Direction of the Effect 1. Cash decreases. 2. Notes Receivable increases. Chapter Two Slide 35 Papa John’s lends $3,000 to new franchisees who sign five-year notes agreeing to repay the loan. (a) (b) (c) (d) Cash Investments 2,000 6,000 (2,000) (3,000) Effect Equip. 16,000 Notes Receivable Notes Payable Contributed Capital 2,000 Retained Earnings 6,000 8,000 10,000 3,000 = 16,000 ∆A= ∆L + ∆SE Chapter Two Slide 36 Papa John’s purchases $1,000 of stock in other companies as an investment. Identify & Classify the Accounts 1. Cash (asset) 2. Investments (asset) Determine the Direction of the Effect 1. Cash decreases. 2. Investments increase. Chapter Two Slide 37 Papa John’s purchases $1,000 of stock in other companies as an investment. (a) (b) (c) (d) (e) Cash Investments 2,000 6,000 (2,000) (3,000) (1,000) 1,000 Effect Equip. 16,000 Notes Receivable Notes Payable Contributed Capital 2,000 Retained Earnings 6,000 8,000 10,000 3,000 = 16,000 ∆A= ∆L + ∆SE Chapter Two Slide 38 Papa John’s board of directors declares and pays $3,000 in dividends to shareholders. Identify & Classify the Accounts 1. Cash (asset) 2. Retained Earnings (equity) Determine the Direction of the Effect 1. Cash decreases. 2. Retained Earnings decreases. Chapter Two Slide 39 Papa John’s board of directors declares and pays $3,000 in dividends to shareholders. (a) (b) (c) (d) (e) (f) Cash Investments 2,000 6,000 (2,000) (3,000) (1,000) 1,000 (3,000) Effect Equip. 13,000 Notes Receivable Notes Payable Contributed Capital 2,000 Retained Earnings 6,000 8,000 10,000 3,000 (3,000) = 13,000 ∆A= ∆L + ∆SE Chapter Two Slide 40 Exercise: Transaction Analysis Cornell Home Healthcare Services has the following summarized events occurred during 2011. Identify which accounts are affected, classify them by the type of account and determine the direction of the effect. a. b. c. d. e. f. Sold 9,000 additional shares of stock to the original organizers for a total of $90,000 cash. Purchased a building for $60,000, equipment for $15,000, and four acres of land for $14,000; paid $9,000 in cash and signed a note for the balance (due in 15 years). (Hint: Five different accounts are affected.) Purchased short-term investments for $18,000 cash. One stockholder reported to the company that 300 shares of his Cornell stock had been sold and transferred to another stock holder for $3,000 cash. Lend one of the shareholders $5,000 for moving costs, receiving a signed six-month note from the shareholder. Sold one acre of land acquired in (b) for $3,500 cash to another company. Chapter Two Slide 41 Exercise: Transaction Analysis a. Cash (+A) $90,000; Contributed Capital (+SE) $90,000 b. Building (+A) $60,000; Equipment (+A) $15,000; Land (+A) $14,000; Cash (−A) $9,000; Notes Payable (+L) 80,000 c. Short-term Investment (+A) $18,000; Cash (−A) $18,000 d. Nothing e. Notes Receivable (+A) $5,000; Cash (−A) $5,000 f. Chapter Two Cash (+A) $3,500; Land (−A) $3,500. Slide 42 How Do Companies Keep Track of Account Balances? Journal entries T-accounts Chapter Two Slide 43 Direction of Transaction Effects A T-account is a tool used to represent an account. Account Name Left Chapter Two Right Slide 44 Direction of Transaction Effects The left side of the T account lways he T-account is always the debit side. The right side of the T-account is always the credit side. Account Name Left Right Debit Credit Chapter Two Slide 45 Direction of Transaction Effects For Assets: DR = Left = Increase; • Asset•accounts increase on the DR (LEFT) side; they normally have debit balances. they normally have debit balances. CR = Right = Decrease • Liab For Liab and SE: increase on= Increase; • and SE accounts CR = Right the CR (RIGHT) side; they normally have credit balances. DR = Left = Decrease Chapter Two Slide 46 The Debit-Credit Framework Debits and credits affect the Balance Sheet Model as follows: A = L + SE ASSETS LIABILITIES EQUITIES Debit Credit for for Increase Decrease Debit Credit for for Decrease Increase Debit Credit for for Decrease Increase The normal balance of an account is on the increase side. Chapter Two Slide 47 The Debit-Credit Framework A = L + SE ASSETS LIABILITIES EQUITIES Debit Credit for for Increase Decrease Debit Credit for for Decrease Increase Debit Credit for for Decrease Increase ∆RE = NI - Dividend Remember that Stockholders’ Equity includes Contributed Capital and Retained Earnings. Chapter Two Slide 48 Double-Entry Bookkeeping Assets + DR Liabilities − CR Normal Balance Shareholders’ Equity − DR − DR + CR Normal Balance + CR Normal Balance Retained Earnings Contributed Capital − DR − DR + CR + CR Normal Balance Normal Balance Expenses + DR − CR Revenues − DR Normal Balance + CR Normal Balance Chapter Two Slide 49 Double-Entry Bookkeeping Debit Increase Assets Expenses Credit Liabilities Stockholders’ Equity Revenue Decrease Liabilities Assets Stockholders’ Equity Expenses Revenue Chapter Two Slide 50 Transaction Analysis • Balance check: A = L + SE remains balance for each transaction. (I.e. ∆A = ∆L + ∆SE) • Equality check: Total Debits = Total Credits for each transaction. +A +A −L −SE = −A +L +A − (−A) = +L − (−L) ∆A +SE +SE − (−SE) = ∆L + ∆SE Chapter Two Slide 51 Analytical Tool: The Journal Entry Provide a reference date for each transaction. for each transaction. Debits are written first. GENERAL JOURNAL Date Account Titles and Explanation Jan. 1 Cash Contributed Capital Credits are indented and written after debits. Chapter Two Posted Ref. Page 1 Debit 20,000 Credit 20,000 Total debits must equal total credits. Slide 52 The Journal Entry (date) PPE (+A)………………………………………10,000 Cash (–A)…………………………….………..2,000 Notes payable (+L)…………….…………….8,000 Check: • A = L + SE (i.e. ∆A = ∆L + ∆SE) (10,000 – 2,000) = 8,000 + 0 • Total Debits = Total Credits 10,000 = (2,000 + 8,000) Chapter Two Slide 53 Analytical Tool: The T-Account After journal entries are prepared, the accountant posts (transfers) the dollar amounts to each account that was affected by the transaction. GENERAL JOURNAL Posted Date Account Titles and Explanation Ref. Ja n. 1 Cash Contributed Capital Chapter Two Page 1 Debit 20,000 Credit 20,000 Post Post Ledger Slide 54 The T-Account Chapter Two Slide 55 Transaction Analysis Illustrated Let’s prepare some journal entries for Papa John’s and post them to the ledger. Chapter Two Slide 56 Papa John’s issues $2,000 of additional common stock to new investors for cash. GENERAL JOURNAL Date Beg. Bal. (a) Account Titles and Explanation Cash Contributed Capital Page 1 Posted Ref. Cash 6,000 2,000 Debit 2,000 Credit 2,000 Contributed Capital 1,000 Beg. Bal. 2,000 (a) 8,000 3,000 Chapter Two Slide 57 The company borrows $6,000 from the local bank, signing a one-year note. GENERAL JOURNAL Date Beg. Bal. (a) (b) Posted Account Titles and Explanation Ref. Cash Notes Payable Cash 6,000 2,000 6,000 14,000 Chapter Two Page 1 Debit 6,000 Credit 6,000 Notes Payable 146,000 Beg. Bal. 6,000 (b) 152,000 Slide 58 Papa John’s purchases $10,000 of new equipment, paying $2,000 in cash and signing a two-year note payable for the rest payable for the rest. GENERAL JOURNAL Date Page 1 Posted Posted Account Titles and Explanation Ref. Account Titles and Explanation Ref. Equi pment Cash Notes Payable Debit Debit 10,000 Credit Credit 2,000 8,000 Let’s see how to post this entry . . . Chapter Two Slide 59 Papa John’s purchases $10,000 of new equipment, paying $2,000 in cash and signing a two-year note payable for the rest payable for the rest. Beg. Bal. (c) Equipment 246,000 10,000 256,000 Beg. Bal. (a) (b) Cash 6,000 2,000 6,000 12,000 Chapter Two 2,000 (c) Notes Paya ble 146,000 Beg. Bal. 6,000 (b) 8,000 (c) 160,000 Slide 60 Balance Sheet Preparation It is possible to is possible to prepare a balance sheet at any point in time from the balances in the accounts accounts. Chapter Two Slide 61 Dell Inc. Balance Sheet at February 3, 2006 (dollars in millions) Assets Current assets Cash Short-term investment Receivables and other assets Inventories Other Noncurrent assets Property, plant and equipment Long-term investments Other noncurrent assets Total assets Liabilities and Stockholders' Equity Current liabilities Accounts payable Other short-term obligations Long-term liabilities Stockholders' equity Contributed capital Retained earnings Total stockholders' equity and liabilities Chapter Two $7,042 2,016 5,452 576 2,620 17,706 2,005 2,691 707 $23,109 $9,840 6,087 15,927 3,053 284 3,845 $23,109 Slide 62 Exercise: Dell, headquarter in Austin, Texas, is the global leader in selling computer products and services. Assume that the following transactions (in millions of dollars) occurred during the remainder of 2006 (ending on January 28, 2007) a. Issued additional shares of stock for $200 in cash. b. Borrowed $30 from banks due in two years. c. Purchased additional investments for $13,000 cash; one fifth were long term and the rest were short term. d. Purchased property, plant and equipment; paid $875 in cash and $1,410 with additional long with additional long-term bank loans. bank loans e. Lent $250 to affiliates (categorized as Receivables and other assets), who signed a six-month note. f. Sold short-term investments costing $10,000 for $10,000 cash. g. Declared and paid $52 in dividends during 2006. Chapter Two Slide 63 Exercise: 1. Prepare a journal entry for each transaction. 2. Create T-accounts for each balance sheet account and include the February 3, 2006 balances. Post each journal entry to the appropriate T-accounts. 3. Prepare a balance sheet from the T-account ending balance for Dell at January 28 2007 based on these balance for Dell at January 28, 2007, based on these transactions. Chapter Two Slide 64 Exercise: 1. Prepare a journal entry for each transaction. a. Cash (+A) 200 Contributed capital (+SE) b. Cash (+A) Cash (+A) 30 Long-term liabilities (+L) c. Long-term investments (+A) 2,600 Short-term investments (+A) 10,400 Cash (−A) d. Property , plant, and equipment (+A) 2,285 Cash (−A) Long-term liabilities (+L) liabilities (+L) e. Receivables and other assets (+A) 250 Cash (−A) f. Cash (+A) 10,000 Short-term investments (−A) g. Retained earnings (−SE) 52 Cash (−A) Chapter Two 200 30 13,000 875 1,410 250 10,000 52 Slide 65 Exercise: P2-5 Chapter Two Slide 66 Chapter Two Slide 67 Focus on Cash Flows Operating activities (Covered in the next chapter.) I nvesting Acti vitie s P urchasing long-term assets and investments for cash Selling long-term assets and investments for cash Lending cash to others Receiving principal payments on loans made to others Financing Activities Borrowing cash from banks Repaying the principal on borrowings from banks I ssuing stock for cash Repurchasing stock with cash Paying cash dividends Chapter Two – + – + + – + – – Slide 68 ...
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