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Copyright © 2014 McGraw-Hill Ryerson Limited 1-1 PowerPoint Author: Robert G. Ducharme, MAcc, CPA, CA University of Waterloo, School of Accounting and.

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Presentation on theme: "Copyright © 2014 McGraw-Hill Ryerson Limited 1-1 PowerPoint Author: Robert G. Ducharme, MAcc, CPA, CA University of Waterloo, School of Accounting and."— Presentation transcript:

1 Copyright © 2014 McGraw-Hill Ryerson Limited 1-1 PowerPoint Author: Robert G. Ducharme, MAcc, CPA, CA University of Waterloo, School of Accounting and Finance FINANCIAL ACCOUNTING Fifth Canadian Edition LIBBY, LIBBY, SHORT, KANAAN, GOWING Financial Statements and Business Decisions Chapter 1

2 1-2 Copyright © 2014 McGraw-Hill Ryerson Limited Understanding the Business The Players Investors Creditors Managers The Business Operations 1. Purchase materials and labour 2. Manufacture product 3. Sell products to customers 4. Collect cash from customers and pay creditors LO1

3 1-3 Copyright © 2014 McGraw-Hill Ryerson Limited Business owners (called investors or shareholders) look for two sources of possible gain: Sell ownership interest in the future for more than they paid. Receive a portion of the company’s earnings in cash (dividends). Understanding the Business LO1

4 1-4 Copyright © 2014 McGraw-Hill Ryerson Limited Creditors lend money to a company for a specific length of time and gain by charging interest on the money loaned. Mel’s Diner Loan Interest Business Background LO1

5 1-5 Copyright © 2014 McGraw-Hill Ryerson Limited Manufacturers either make the parts needed to produce its products or buy the parts from suppliers. ManufacturerProductCustomer Understanding Business Operations LO1

6 1-6 Copyright © 2014 McGraw-Hill Ryerson Limited The Accounting System Collects and processes financial information Reports information to decision makers Managers (internal decision makers) Investors and Creditors (external decision makers) LO1

7 1-7 Copyright © 2014 McGraw-Hill Ryerson Limited External Decision Makers Investors, creditors, suppliers, customers, etc. Internal Decision Makers Managers throughout the organization The Accounting System Accounting System Financial Accounting Reports Periodic financial statements and related disclosures Managerial Accounting Reports Detailed plans and continuous performance reports LO1

8 1-8 Copyright © 2014 McGraw-Hill Ryerson Limited The Accounting System and Decision Makers CashEquipmentInventory Notes Payable An organized format used by companies to accumulate the dollar effects of transactions. LO1

9 1-9 Copyright © 2014 McGraw-Hill Ryerson Limited Information Conveyed in Financial Statements When studying the financial statements you should focus on these questions: 1.What categories of items (often called elements) are reported on each of the four statements? (What type of information does a statement convey, and where can you find it?) 2.What time period (monthly, quarterly, annual) is covered by the financial statements? 3.How are the elements within a statement related? These relationships are usually described by an equation that tells you how the elements fit together. 4.Why is each element important to managers’, owners’ or creditors’ decisions? (How important is the information to decision makers?) LO1

10 1-10 Copyright © 2014 McGraw-Hill Ryerson Limited External Financial Reporting  Financial statements are often referred to as having been prepared using GAAP (Generally Accepted Accounting Principles)  In Canada, GAAP can be either:  IFRS: International Financial Reporting Standards (IASB)  ASPE: Accounting Standards for Private Enterprise (AcSB)  Companies that trade their securities (debt or equity) in a public market are required to use IFRS  Those companies that do not meet the above criteria, have an option of using either IFRS or ASPE (most will chose ASPE because it is less complex)

11 1-11 Copyright © 2014 McGraw-Hill Ryerson Limited The Four Basic Financial Statements -IFRS 1.STATEMENT OF FINANCIAL POSITION – reports the amount of assets (resources owned), liabilities (amounts owed), and shareholders’ equity of an accounting entity at a point in time. 2.STATEMENT OF COMPREHENSIVE INCOME – reports the revenues less the expenses of the accounting period. 3.STATEMENT OF CHANGES IN EQUITY – reports the way that profit, distribution of profit (dividends), and other changes to shareholders’ equity affected the financial position of the company during the accounting period. 4.STATEMENT OF CASH FLOWS – reports inflows (receipts) and outflows (payments) of cash during the accounting period in the categories of operating, investing, and financing. 1.STATEMENT OF FINANCIAL POSITION – reports the amount of assets (resources owned), liabilities (amounts owed), and shareholders’ equity of an accounting entity at a point in time. 2.STATEMENT OF COMPREHENSIVE INCOME – reports the revenues less the expenses of the accounting period. 3.STATEMENT OF CHANGES IN EQUITY – reports the way that profit, distribution of profit (dividends), and other changes to shareholders’ equity affected the financial position of the company during the accounting period. 4.STATEMENT OF CASH FLOWS – reports inflows (receipts) and outflows (payments) of cash during the accounting period in the categories of operating, investing, and financing. LO1

12 1-12 Copyright © 2014 McGraw-Hill Ryerson Limited The Four Basic Financial Statements-ASPE 1.BALANCE SHEET– reports the amount of assets (resources owned), liabilities (amounts owed), and shareholders’ equity of an accounting entity at a point in time. 2.STATEMENT OF INCOME – reports the revenues less the expenses of the accounting period AND other gains and losses. 3.STATEMENT OF RETAINED EARNINGS – reports the accumulation of profits that have not been distributed to shareholders, distribution of profit (dividends) of the company during the accounting period. 4.STATEMENT OF CASH FLOWS – reports inflows (receipts) and outflows (payments) of cash during the accounting period in the categories of operating, investing, and financing. 1.BALANCE SHEET– reports the amount of assets (resources owned), liabilities (amounts owed), and shareholders’ equity of an accounting entity at a point in time. 2.STATEMENT OF INCOME – reports the revenues less the expenses of the accounting period AND other gains and losses. 3.STATEMENT OF RETAINED EARNINGS – reports the accumulation of profits that have not been distributed to shareholders, distribution of profit (dividends) of the company during the accounting period. 4.STATEMENT OF CASH FLOWS – reports inflows (receipts) and outflows (payments) of cash during the accounting period in the categories of operating, investing, and financing. LO 1

13 1-13 Copyright © 2014 McGraw-Hill Ryerson Limited The Statement of Financial Position Assets Cash Short-Term Investment Trade Receivables Notes Receivable Inventory (to be sold) Supplies Prepaid Expenses Long-Term Investments Land Equipment Buildings Intangibles Liabilities Trade Payables Accrued Liabilities Notes Payable Taxes Payable Deferred Revenue Bonds Payable Shareholders’ Equity Contributed Capital Retained Earnings Typical Account Titles LO1

14 1-14 Copyright © 2014 McGraw-Hill Ryerson Limited ElementsAssets Economic resources controlled by the entity as a result of past business events from which future economic benefits may be obtained.Liabilities Debts or legal obligations of the entity that result from past business events. Shareholders’ Equity Amount of financing provided by owners of the corporation and from earnings over time. The Statement of Financial Position LO1

15 1-15 Copyright © 2014 McGraw-Hill Ryerson Limited The Statement of Financial Position The Accounting Equation A = L + SE (Assets) (Liabilities)(Shareholders’ Equity) Economic Resources Sources of Financing for Economic Resources Liabilities: From Creditors Shareholders’ Equity: From Shareholders LO1

16 1-16 Copyright © 2014 McGraw-Hill Ryerson Limited The Statement of Financial Position LO1

17 1-17 Copyright © 2014 McGraw-Hill Ryerson Limited The Statement of Comprehensive Income Revenues Sales Revenue Fee Revenue Interest Revenue Rent Revenue Expenses Cost of Sales Wages Expense Rent Expense Interest Expense Depreciation Expense Advertising Expense Insurance Expense Repair Expense Income Tax Expense Typical Account Titles LO1

18 1-18 Copyright © 2014 McGraw-Hill Ryerson Limited Statement of Comprehensive Income LO1

19 1-19 Copyright © 2014 McGraw-Hill Ryerson Limited June 2015 Cash from sale collected on June 10. X May 2015 $1,000 sale made on May 25. X Revenues Earnings from the sale of goods or services. Statement of Comprehensive Income Revenue is recognized in the period in which goods and services are sold, not necessarily the period in which cash is received. When will the revenue from this transaction be recognized? LO1

20 1-20 Copyright © 2014 McGraw-Hill Ryerson Limited May 2015 $1,000 revenue recognized in May June 2015 Statement of Comprehensive Income When will the revenue from this transaction be recognized? Earnings from the sale of goods or services. Revenue is recognized in the period in which goods and services are sold, not necessarily the period in which cash is received. Revenues LO1

21 1-21 Copyright © 2014 McGraw-Hill Ryerson Limited May 2015June 2015 Paid $75 cash on May 11 for newspaper ad. X Ad appears on June 8. X Expenses The dollar amount of resources used up by the entity to earn revenues during a period. Statement of Comprehensive Income An expense is recognized in the period in which goods and services are used, not necessarily the period in which cash is paid. When will the expense for this transaction be recognized? LO1

22 1-22 Copyright © 2014 McGraw-Hill Ryerson Limited May 2015June 2015 Advertising expense recognized in June. Statement of Comprehensive Income The dollar amount of resources used up by the entity to earn revenues during a period. An expense is recognized in the period in which goods and services are used, not necessarily the period in which cash is paid. When will the expense for this transaction be recognized? Expenses LO1

23 1-23 Copyright © 2014 McGraw-Hill Ryerson Limited Statement of Changes in Equity Equity, beginning of the period Plus: Net earnings for the year Plus: Other comprehensive income Less: Dividends Plus/Less: Other changes, net Equity, end of the period LO1

24 1-24 Copyright © 2014 McGraw-Hill Ryerson Limited Statement of Changes in Equity LO1

25 1-25 Copyright © 2014 McGraw-Hill Ryerson Limited Because revenues reported do not always equal cash collected and expenses reported do not always equal cash paid... Net earnings are usually not equal to the change in cash for the period. Statement of Cash Flows LO1

26 1-26 Copyright © 2014 McGraw-Hill Ryerson Limited Statement of Cash Flows LO1

27 1-27 Copyright © 2014 McGraw-Hill Ryerson Limited Relationships Among the Statements 1. Net earnings from the income statement results in an increase in ending retained earnings on the statement of changes in equity. Income Statement Revenues $ 152,795 Statement of Changes in Equity Expenses 151,518 Beginning retained earnings $ 27,914 Net earnings $ 1,267 Net earnings 1,267 Dividends (500) Ending retained earnings $ 28,681 LO1

28 1-28 Copyright © 2014 McGraw-Hill Ryerson Limited Relationships Among the Statements 2. Ending retained earnings from the statement of changes in equity is one of the three components of shareholders’ equity on the statement of financial position. Statement of Changes in Equity Statement of Financial Position Retained Earnings Cash $ 3,727 Beginning retained earnings $ 27,914 Other assets 87,246 Net earnings 1,267 Total assets $ 90,973 Dividends (500) Liabilities $ 43,937 Ending retained earnings $ 28,681 Contributed capital 18,421 Retained earnings 28,681 Other equity components (66) Total liabilities and equity $ 90,973 LO1

29 1-29 Copyright © 2014 McGraw-Hill Ryerson Limited Relationships Among the Statements 3. The change in cash on the statement of cash flows is added to the beginning-of-year balance in cash to arrive at end-of-year cash on the statement of financial position. Statement of Cash Flows Statement of Financial Position Cash flows from operating activities $ 17,933 Cash $ 3,727 Cash flows from investing activities (1,418) Other assets 87,246 Cash flows from financing activities (13,359) Total assets $ 90,973 Change in cash $ 3,156 Liabilities $ 43,937 Beginning cash balance 571 Contributed capital 18,421 Ending cash balance $ 3,727 Retained earnings 28,681 Other equity components (66) Total liabilities and equity $ 90,973 LO1

30 1-30 Copyright © 2014 McGraw-Hill Ryerson Limited Notes All financial statements should be accompanied by notes which provide the reader with supplemental information about the financial condition and results of operations of the company. 4 Three types... Ê Describe accounting rules applied. Ë Present additional detail about an item on the financial statements. Ì Provide additional information about an item not on the financial statements. LO1

31 1-31 Copyright © 2014 McGraw-Hill Ryerson Limited Marketing managers and credit managers use customers’ financial statements to decide whether to extend credit. Purchasing managers use suppliers’ financial statements to decide whether suppliers have the resources to meet the demand for products. Employees’ union and human resource managers use the company’s financial statements as a basis for contract negotiations over pay rates. Management Uses of Financial Statements LO1

32 1-32 Copyright © 2014 McGraw-Hill Ryerson Limited Decision makers need to understand accounting measurement rules. Decision makers need to understand accounting measurement rules. Responsibilities for the Accounting Communication Process Effective communication means that the recipient understands what the sender intends to convey. Effective communication means that the recipient understands what the sender intends to convey. LO2

33 1-33 Copyright © 2014 McGraw-Hill Ryerson Limited Responsibilities for the Accounting Communication Process International Financial Reporting Standards (IFRS) International Financial Reporting Standards (IFRS) The Rules LO2

34 1-34 Copyright © 2014 McGraw-Hill Ryerson Limited How are IFRS and Generally Accepted Accounting Principles Determined? Our accounting system has a long and distinguished history. An Italian monk named Luca Pacioli, published the first elements of double-entry bookkeeping in Prior to 1933, the management teams of most companies were largely free to choose their own financial reporting practices. LO2

35 1-35 Copyright © 2014 McGraw-Hill Ryerson Limited The Securities and Exchange Commission (SEC) has been given broad powers to determine measurement rules for financial statements in the U.S. The Ontario Securities Commission (OSC) has been given broad powers to determine measurement rules for financial statements in Canada. The Securities and Exchange Commission (SEC) has been given broad powers to determine measurement rules for financial statements in the U.S. The Ontario Securities Commission (OSC) has been given broad powers to determine measurement rules for financial statements in Canada. Securities Act of 1933 Securities and Exchange Act of 1934 Securities Act of 1933 Securities and Exchange Act of 1934 Generally Accepted Accounting Principles LO2

36 1-36 Copyright © 2014 McGraw-Hill Ryerson Limited Currently, the Accounting Standards Board (AcSB) is recognized as the body to formulate GAAP in Canada. Currently, the Accounting Standards Board (AcSB) is recognized as the body to formulate GAAP in Canada. The OSC has worked closely with the accounting profession to work out the detailed rules that have become known as GAAP. The OSC has worked closely with the accounting profession to work out the detailed rules that have become known as GAAP. Generally Accepted Accounting Principles LO2

37 1-37 Copyright © 2014 McGraw-Hill Ryerson Limited Companies incur the cost of preparing the financial statements and bear the following economic consequences...  Effects on the selling price of shares.  Effects on the amount of bonuses received by managers and other employees.  Loss of competitive information to other companies. Generally Accepted Accounting Principles LO2

38 1-38 Copyright © 2014 McGraw-Hill Ryerson Limited International Perspective International Financial Reporting Standards Since 2002, there has been substantial movement toward the adoption of International Financial Reporting Standards (IFRS) issued by the International Accounting Standards Board (IASB). Examples of jurisdictions currently requiring the use of IFRS include: All countries in the European Union Australia and New Zealand Hong Kong, China, India, Malaysia, and South Korea Israel and Turkey Argentina, Brazil and Chile Canada and Mexico In the United States, the Securities and Exchange Commission (SEC) now allows foreign companies whose shares are traded in the U.S. to use IFRS and is considering allowing the same for domestic companies in the future. LO2

39 1-39 Copyright © 2014 McGraw-Hill Ryerson Limited To ensure the accuracy of the company’s financial information, management:  Maintains a system of controls.  Hires outside independent auditors.  Forms a committee of the board of directors to review these two safeguards. Management Responsibility and the Demand for Auditing LO3

40 1-40 Copyright © 2014 McGraw-Hill Ryerson Limited  Auditors express an opinion as to the fairness of the financial statements.  Independent auditors have responsibilities that extend to the general public.  The CPAB issues detailed auditing standards that auditors must follow. Independent Auditors Overall, I believe these financial statements are fairly stated. LO3

41 1-41 Copyright © 2014 McGraw-Hill Ryerson Limited Independent Auditors An audit involves...  Examining the financial reports to ensure compliance with GAAP.  Examining the underlying transactions incorporated into the financial statements.  Expressing an opinion as to the fairness of presentation of financial information. LO3

42 1-42 Copyright © 2014 McGraw-Hill Ryerson Limited Chartered Professional Accountant = CPA (newly amalgamated organization of many provincial CA, CMA, and CGA organizations effective January 1, 2013) Chartered Accountant = CA Certified Management Accountant = CMA Certified General Accountant = CGA Certified Public Accountant = CPA* (* in USA) Accounting Designations LO3

43 1-43 Copyright © 2014 McGraw-Hill Ryerson Limited Ethics, Reputation, and Legal Liability The Chartered Professional Accountants of Canada (CPA) and the Canadian Institute of Chartered Accountants (CA) require that all members adhere to a professional code of ethics. The other accounting professions have similar requirements. Code of Ethics LO4

44 1-44 Copyright © 2014 McGraw-Hill Ryerson Limited A CPA’s reputation for honesty and competence is his/her most important asset. Like physicians, CPAs, CAs, CMAs, and CGAs have liability for malpractice. Ethics, Reputation, and Legal Liability LO4

45 1-45 Copyright © 2014 McGraw-Hill Ryerson Limited Appendix 1A: Types of Business Entities Sole Proprietorship: owned by a single individual. Partnership: owned by two or more individuals. Corporation: ownership represented by shares of stock. Sole Proprietorship: owned by a single individual. Partnership: owned by two or more individuals. Corporation: ownership represented by shares of stock. Advantages of a Corporation  Limited liability  Continuity of life  Ease of transfer of ownership  Opportunity to raise large amounts of money Disadvantage of a Corporation  Double taxation Advantages of a Corporation  Limited liability  Continuity of life  Ease of transfer of ownership  Opportunity to raise large amounts of money Disadvantage of a Corporation  Double taxation LO4

46 1-46 Copyright © 2014 McGraw-Hill Ryerson Limited Appendix 1B: Employment in the Accounting Profession Today Professional Designations CPA CA CMA Career Opportunities Public Accounting  Audit and Assurance Services  Management Consulting Services  Tax Services Employment by Organizations  Internal accounting  External reporting  Tax planning  Various other functions Employment in the Public and Not- for-Profit Sector LO4 CGA

47 1-47 Copyright © 2014 McGraw-Hill Ryerson Limited End of Chapter 1


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