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Accounting

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the language of business, a system of maintaining records of a companys operations and communicating that information to decision makers

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the earliest use of system dates back to

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ancient mesopotamia, present day iraq for delivered agricultural products, record of multiple transactions allowed for better exchange among individuals and aided in the development of more complex societies

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primary users of financial accounting information

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investors, and creditors (lenders)

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people make decisions about

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companies

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investors

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decide whether to invest in stock

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creditors

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decide whether to lend money

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customers

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decides whether to purchase products

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suppliers

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decide the ability to pay for supplies

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managers

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decide production and expansion

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employees

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decide employment opportunities

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competitiors

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decide market share and profitability

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regulators

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decide on social welfare

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tax authorities

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decide on taxation policies

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local communities

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decide on environmental issues

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people and organizations need

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information to make good decisions

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functions of accounting

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to measure the activities of the company and communicate those measurements to people

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two broad classes of accounting

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managerial and financial

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managerial

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deals with the methods accountants use to provide information to an organizations internal users ( that is its own managers)

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people make decisions about

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companies

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companies activities measured by

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accountants

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accountants communicate information to

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people

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the two primary functions of financial accounting

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to measure business activities of a company and to communicate those measurements to external parties for decision making purposes

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two primary external users of financial accounting information (users outside of the firms)

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investors and creditors

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investors make decisions related to

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buying and selling the companies stock (shares of ownership) "is the company profitable?" , " will the companies stock increase in value?"

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creditors make decisions related to

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lending money to the company "will the company be able to repay its debt when it comes due?", "will it be able to pay interest in the meantime?"

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the first of financial accounting's functions is

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to measure business activities

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a business engages in three fundamental activities

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financing, investing, and operating

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corporation

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and entity that is legally separate from its owners . the corporation raises external funding by selling shares of ownership (typically referred to as common stock) in the corporation. each share of stock represents a unit of ownership

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we measured resources owned by a company as

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assets

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assets can be refereed to as

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cash, inventories, supplies and buildings

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cash

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a resource used to make purchases , inventories represent resources used to make product sales to customers, supplies include resources used to preform basic business functions, and buildings are resources used by employees as a location from which to operate a company

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liabilities

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amounts owned to creditors, must be paid by a specific date

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stockholders equity

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for a corporation , we refer to owners claims to resources as stockholders equity, since stockholders are the owners of the corporation

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basic accounting equation, relationship among three measurement categories (companies resources equal creditors and owners clamis to those resources) (ASSETS AND LIABILITIES ARE HOW MUCH COMPANIES OWE AND EQUITY IS THE DIFFERENCE)

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assets (resources)= liabilities (creditors claim)+stockholder equity (owners claims) CLAIMS ARE CLAIMS TO RESOURCES

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stockholders claim all

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resources in excess of amounts owed to creditors profits of the company, which add to total resources are claimed solely by stockholders, the owners of the company

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revenues

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the amounts earned from selling products or services to customers

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how to calculate companies profits

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compare revenues and expenses

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expenses

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the costs of providing products and services

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net income

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the difference between revenues and expenses . all businesses want revenues too be greater than expenses, producing a positive net income (revenues- expenses= net income)

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net loss

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if expenses exceed revenues , the difference between them is a negative amount

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if the cooporation has positive net income

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it typically will distribute to its owner, the stockholders, some of those proftis, it does so by making cash payments to its stockholders, usually every 3 months, in payments called DIVIDENS

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the computer repair business

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organized as a corporation

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sole proprietorship

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a business owned by one person

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partnership

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owned by 2 or more persons

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major advantage of the corporate form of business

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limited liability of the corporations stockholder

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limited liability

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the stockholders are not held personally responsible fro the financial obligations of the corporation . if the business fails, stockholders can lose no more than the investment they already made by purchasing stock . stockholders are not obligated to pay the corporations remaining debts out of their own pockets. in contrast if a sole proprietorship or partenership is unable to pay its legal obligations to creditors, the owner may be forced to surrender personal assets to satisfy those debts

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the disadvantage of the corporate form

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the higher tax burden on the owners. the corporate income tax rate is greater than the individual income tax . moreover a coorporation's income is taxed twice first when the company earns it and pays corporate income taxes on it and then again when stockholders pay personal income taxes on amounts the firm distributes to them as dividends. this is called double taxation. any income of a sole proprietorship or a partnership is taxed only once and at the personal income rate

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financial statements

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periodic reports published by the company for the purpose of providing information to external users, primary means of communication financial statments

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four primary financial statements

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income statement, statement of stockholders equity, balance sheet , statement of cash flows

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income statement

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financial statement that reports the companies revenues and expenses over an interval of time, it shows whether the company was able to generate enough revenue to cover the expenses of running the business.

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the heading of the income statement

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includes the companies name, the title of the financial statement, and the time period covered by the financial statement, the three major captions in thr income statement include revenues and expenses, and the difference between them (net income)

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typical costs of any company

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revenues of $6,360, expenses of 5,860, the income statement shows that revenues exceed expenses and thus the academy is able to report net income of $500

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statement of shareholders equity

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financial statement that summarizes the changes in stockholders equity over and interval of time, the reporting period coincides with the time period covered by the income statement

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stockholders equity has two primary components

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common stock and retained earning

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common stock

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represents amounts invested by stockholders (the owners of the coorporation) when they purchase shares of stock. common stock is an external source of stockholders equity

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retained earnings

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internal source of stockholders equity , represents the cumulative amount of net income , earned over the life of the company, that has not been distributed to stockholders as dividend. since all profits of the company are owned by stockholders, any net income in excess of dividends paid to stockholders represents stockholders equity retained in the business

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stockholders equity consists of

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common stock, retained earnings

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the name retained earnings is descriptive. the balance of retained earnings represents the amount of earnings retained (not paid out in the form of dividends) over the life of a company

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retained earnings

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balance sheet

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financial statement that presents the financial position of the company on a particular date

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statement of cash flows

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financial statement that measures activities involving cash payments over an interval of time. we can classify all cash transactions into three categories that correspond to the three fundamental business activities operating, investing and financing

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operating cash flows

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include cash receipts and cash payments for transaction involving revenues and expenses

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investing cash flows

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generally include cash transactions for the purchase and sale of investments and productive long term assets . long term assets are resources owned by a company that are thought to provide benefits for more than one year

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financing cash flows

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include cash transactions with lenders such as borrowing money and repaying debt and with stockholders such as issuing stock and paying dividends

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any transaction that affects the income statement

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affects the balance sheet through the balance of retained earnings

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management discussion and analysis

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includes managements views on significant events, trends, and uncertainties pertaining, to the companies operations and resources

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note disclosures

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offer additional information either to explain the information presented in the financial statements or to provide information not included in the financial statements

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GAAP (generally accepted accounting principles)

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all companies that sell their stock to the public must follow these rules and must publish financial statements in accordance with these rules

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FASB (financial accounting standards board)

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independent private sector with full time voting members and a very large support staff. financial accounting and reporting standards in the US are established by them. members include representatives from the accounting profession, large corporations, financial analysts, accounting educators, and government agencies

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it is the responsibility of management to apply

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GAAP when communicating with investors and creditors through financial statements

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auditors

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helps ensure that management has in fact appropriately applied GAAP the SEC required independent outside verification of the financial statements of publicly traded companies, these people are hired by a company as an independent party to express a professionalism opinion of the accuracy of that companys financial statements

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ethics

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a code or moral system that provides criteria for evaluating right and wrong behavior

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public accounting firms

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professional service firms that traditionally have focused on three areas" auditing, tax preparation/planning, and business consulting

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private accounting firms

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providing accounting services to the company that employs you

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conceptual framework

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theory of accounting

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decision usefulness

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the ability to be usefull in decision making

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relevance

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information should possess confirmatory value and predictive value

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faithful representation

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information should be complete, neutral, and free from material error

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comparability

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the ability of users to see similarities and differences between two different business activities

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consistency

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the use of similar accounting procedures either over time for the same company or across companies at the same point in time

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verfiability

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a consensus among different measures

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timeliness

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information being available to users early enough to allow them to use it in the decision process

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understandability

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users must be able to understand the information within the context of the decision they are making

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cost effictiveness

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suggests that financial accounting information is provided only when the benefits of doing so exceed the costs

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materiality

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the impact of financial accounting information on investors and creditor decisions

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four basic assumptions that underlie GAAP

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economic entity, monetary unit, periodicity, going concern

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economic entity assumption

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states we can identify all economic events with a particular economic entity, only business transactions involving dell should be reported as part of dells financial accounting information. another key aspect of this assumption is the distinction between the economic activities of owners and those of the company

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monetary unit assumption

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in order to measure financial statement elements, we need a unit or scale measurement . the dollar in the US is the most appropriate common denominator to express those elements

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periodicity assumption

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relates to the qualitative characteristic of timeliness. external users need periodic information to make decisions, divides the economic life of an enterprise (presumed to be indefinite into an artificial time period for the periodic financial reporting . corporations like dell whose securities are publicly traded are required to provide financial information to the SEC on a quarterly and annual basis

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going concern assumption

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states in the absence of information to the contrary, a business entity will continue to operate indefinitely. this assumption is critical to many broad and specific accounting principles. it provides justification for measuring many assets based on their original costs ( a practice known as the historical cost principle)

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four principles that guide the application of GAAP

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historical cost, full disclosure, realization, and matching

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