1. Using Accounting Information
Chapter 15
Using Accounting Information

2. Learning Objectives
Explain why accurate accounting information and audited financial statements are important.
Identify the people who use accounting information and possible careers in the accounting industry.
Discuss the accounting process.
Read and interpret a balance sheet.
Read and interpret an income statement.
Describe business activities that affect a firm’s cash flow.
Summarize how managers evaluate the financial health of a business.

3. Accounting
…the process of systematically collecting, analyzing, and reporting financial information.

4. Accounting Provides Answers
How much profit did a business earn last year?
How much tax does a business owe the Internal Revenue Service?
How much cash does a business have on hand?

5. Accounting As an Information System
Source: Needles, Powers, Crosson, Principles of Accounting (Boston: Houghton Mifflin, 2005).

6. Recent Accounting Problems
Pressure to “cook” the books
Greed: compensation tied to stock value
Inaccurate/misleading reporting
Increased SEC and IRS scrutiny

7. Audited Financial Statements
Audit: Examination of a company’s financial statements and accounting practices that produced them
Generally Accepted Accounting Principles (GAAPs): Accepted set of guidelines and practices for companies reporting financial information and for the accounting profession

8. Organizations Influencing Accounting Profession
Financial Accounting Standards Board (FASB)
American Institute of Certified Public Accountants (AICPA)
International Accounting Standards Board (IASB)

9. Sarbanes-Oxley Act (2002)
SEC established oversight board
CEO/CFO required to certify reports
Accounting firms cannot provide non-auditing/consulting services
Auditors keep documents/work papers for 5 years
Prison sentences up to 20 years for document destruction
Change auditing firm every 5 years
Protection of whistle-blowers

10. Table 15.1: Users of Accounting Information
Managers + outside individuals + other organizations

11. Types of Accounting
Managerial: provides information to make decisions about financing, investing, and operations
Financial: generates statements/reports
Cost: determines cost of production
Government: ensures tax revenues collected
Not-for-Profit: accounts for donations and expenditures
Tax: plans tax strategy and prepares returns

12. To Be Successful in Accounting
Be responsible, honest, ethical
Have strong background in financial management
Know computer/software to process data
Be able to communicate about accounting information

13. Income for Accountants and Auditors
Spotlight
Income for Accountants and Auditors
Source: The Bureau of Labor Statistics web site at May 18, 2009.

14. Accountant Classifications
Private: employed by specific organization
Public: works on fee basis for clients and may be self-employed
Certified Public Accountant (CPA): individual has met state requirements for accounting education and experience and has passed AICPA exam
Certified Management Accountant (CMA): certified by Institute for Management Accountants

15. Requirements for Becoming a CPA
Education = 150 undergraduate and/or graduate semester hours
Most areas
At least a bachelor’s degree
Two+ years of public accounting (some areas accept non-public accounting)
Certificate and license: pass exam and fulfill experience
Age = 18+
Source: SmartPros, “Basic Information on the CPA Exam”, 2000,

16. Assets = Liabilities + Owners’ Equity Accounting Equation
Assets = Resources Business Owns
Liabilities = Firm’s Debts
Owners’ Equity = Total Assets - Total Liabilities

17. Double-Entry Bookkeeping
…a system in which each financial transaction is recorded as two separate accounting entries to maintain the balance shown in the accounting equation.

18. Analyze Record Post Prepare Close
Accounting Cycle
Analyze
Record
Post
Prepare
Close

19. Balance Sheet
…a summary of the dollar amounts of a firm’s assets, liabilities, and owners’ equity accounts at the end of a specific accounting period.

20. Figure 15.1: Personal Balance Sheet
Individuals determine their net worth, or owner’s equity, by subtracting the value of their debts from the value of their assets.

21. Balance Sheet Assets Listed
Most Liquid
Least Liquid

22. Figure 15.2: Business Balance Sheet
Summarizes firm’s accounts at the end of an accounting period.
Note that assets ($340,000) equal liabilities plus owners’ equity ($340,000).

23. Income Statement
…a summary of a firm’s revenues and expenses during a specified accounting period.

24. Figure 15.3: Personal Income Statement
By subtracting expenses from income, anyone can construct a personal income statement and determine if they have a surplus or deficit at the end of each month.

25. Income Statement Expense Accounts
Cost of Goods Sold =
Beginning Inventory
Net Purchases
Ending Inventory + -

26. Figure 15.4: Business Income Statement
Summarizes firm’s revenues and expenses during a specified accounting period.
For Northeast Art, net income after taxes is $30,175.

27. Statement of Cash Flows
A statement that illustrates how the operating, investing, and financing activities of a company affect cash during an accounting period.

28. Figure 15.5: Statement of Cash Flows
For Northeast Art, the amount of cash at the end of the year is $59,000—the same amount reported for the cash account on the firm’s balance sheet.

29. Cash Flows Activities
Operating : cash flow from primary revenue source
Investing: cash flow from investments such as purchase/sale of land, equipment, etc.
Financing: cash flow from financing such as changes in debt obligation and owners’ equity
Added to beginning cash balance to get ending cash balance

30. Using Annual Reports to Compare Data
Determine profitability
Read the letters
Compare current statements with prior period statements
Examine footnotes
Learn to calculate financial ratios
Compare with other firms’

31. Comparison of Financial Statements Since the beginning of the company
Timeframe
Main Accounts
Income
Up to 1 year
Expense
Profit
Balance Sheet
Since the beginning of the company
Assets
Liabilities
Equity
Cash Flow
Operating
Investment
Financing

32. Financial Ratio
…a number that shows the relationship between two elements of a firm’s financial statements.

33. Ratio Classification Profitability: effectiveness in use of resources
Short-Term: ability to pay current liabilities
Activity: how many times per year accounts receivable collected or inventory sold
Debt to Owners’ Equity: degree operations financed through borrowing

34. Return on Owners’ Equity
Profitability Ratios
net income after tax
net sales
$30,175
$451,000
Return on Sales = = =
6.7%
Return on Owners’ Equity
net income after tax
owners’ equity
$30,175
$230,000 = = =
13.0%
net income after tax
common stock
shares outstanding
Earnings per Share
$30,175
$25,000 = = =
$1.21

35. Short-Term Financial Ratios
current assets
- current liabilities
working capital
$182,000
-$ 70,000
$112,000
Working Capital = =
current assets
current liabilities
$182,000
$70,000
Current Ratio = = =
2.6
cash + marketable securities + receivables
current liabilities
$139,000
$70,000
Acid-Test Ratio = = =
1.99

36. Activity Ratios A/R Turnover = = = Inventory Turnover = = =
net sales
accounts receivable
A/R Turnover =
$451,000
$38,000 = =
11.9 times per year
Inventory Turnover
cost of goods sold
average inventory =
$334,000
$40,500 = =
8.2 times per year

37. Debt-to-Owners’ Equity Ratio
total liabilities
owners’ equity =
$110,000
$230,000 = =
48 percent

38. Table 15.2: Financial Ratios Compared

39. Chapter Quiz
The __________ is designed to improve accounting standards.
Ethics in Accounting Act
Graham-Rudman Reform Act
Sarbanes-Oxley Act
Securities and Exchange Accounting Act
Accounting Standards Establishment Act

40. Chapter Quiz
An accountant who is employed by a specific business or organization is referred to as a(n)
public accountant.
private accountant.
proprietary accountant.
AICPA accountant.
asset accountant.

41. Chapter Quiz The first step in the accounting cycle is to
analyze source documents.
record individual transactions.
post individual transactions.
construct a beginning financial statement.
prepare a list of employees.

42. Chapter Quiz
Assets, liabilities, and owners’ equity would be listed on a firm’s
balance sheet.
income statement.
statement of earnings.
statement of retained earnings.
statement of capital.

43. Chapter Quiz Current assets minus current liabilities equals
return on owners’ equity.
current ratio.
acid-test ratio.
working capital.
current cash statement.