CHAPTER 8: ACCOUNTING DECISION MAKING BY THE NUMBERS

Market Information  How can you tell how well you are doing?  Measure individual transactions  Put them all together – How much “stuff” (acquired wealth) do you have Where did it come from? (assets = liabilities + owners equity) How much new wealth are you creating with it? (revenue - expense = profit)  Goal of business: To create wealth  Competing for transactions in the market

FINANCIAL STATEMENTS: THE MAIN OUTPUT OF FINANCIAL ACCOUNTING  Financial accounting includes three basic financial statements:  Balance Sheet assets: value of the stuff the organization controls liabilities: debt claims against the stuff owners’ equity: owners’ claims against the stuff  Income Statement revenues ($ coming in) revenues ($ coming in) expenses ($ going out) expenses ($ going out)  Statement of Cash Flows  Corporations with publicly held stock must publish annual reports with all three statements

BALANCE SHEET: WHAT WE OWN AND HOW WE GOT IT Assets = Liabilities + Owner’s Equity Owner’s Equity – the claims owners have against their firm’s assets Balance Sheet – summarizes a firm’s financial position at a specific point in time. Assets – things of value that the firm owns Liabilities – indicates what the firm owes to non-owners

Stuff & claims against stuff Stuff Car $4,000 Claims against stuff Dave (owner) $3,000 Becky (loan)$1,000

Stuff & claims against stuff Stuff House $140,000 Claims against stuff Bank (debt) $115,000 Dave (owner) $ 25,000

Stuff & claims against stuff Stuff Car $4,000 Claims against stuff Dave (owner) $3,000 Becky (debt: 6 mo)$1,000 Stuff House $140,000 Claims against stuff Bank (debt) $115,000 Dave (owner) $ 25,000

Snap shot: The Balance Sheet Assets (stuff)  car 4,000  house140,000  total144,000 Liabilities and Owners Equity  short term liabilities (becky) 1,000  long term liabilities (bank)115,000  equity (car and house) 28,000  total144,000 $ $

SAMPLE BALANCE SHEET

Foundation & Accounting Numbers Balance SheetTotal% Assets 12/31/08 Cash$5, % Accounts Receivable$3, % Inventory$2, % Total Current Assets$11, % Plant & Equipment$14, % Accumulated Depreciation($4,848)-23.2% Total Fixed Assets $9, % Total Assets$20, %

Foundation & Accounting Numbers Liabilities & Owner's EquityTotal% Accounts Payable$2, % Current Debt$00.0% Long Term Debt$5, % Total Liabilities$8, % Common Stock$2, % Retained Earnings$10, % Total Equity$12, % Total Liability & Owner’s Equity$20, %

THE INCOME STATEMENT: HOW DID WE DO? Revenue – Expenses = Net Income Net Income – the profit or loss the firm earns Income Statement – summarizes a firm’s operations over a given period of time in terms of profit and loss. Revenue– the increase in the amount of assets the firm earns Expenses – the cash the firm spends or other assets it uses to generate revenue

SAMPLE INCOME STATEMENT

Foundation & Accounting Numbers Income Statement Total% Sales$40, Variable Costs Direct Labor$12, Direct Material$20, Inventory Carry$ Total Variable Cost$32, Contribution Margin$8,

Period Costs% Depreciation$ SGA: R&D $00.0 Promotions $1, Sales $1, Administration $ Total Period Costs$3, Net Margin$4, Other$00.0 EBIT$4, Short Term Interest$00.0 Long Term Interest$ Taxes$1, Profit Sharing$510.1 Net Profit$2,4856.1

STATEMENT OF CASH FLOWS: SHOW ME THE MONEY  Cash flowing into and out of the firm  Operations  Investing  Financing  Increase and decrease from all three sources  Total amount of cash on hand  Stakeholders want to know if there is adequate cash to pay workers, creditors, suppliers and IRS

SAMPLE STATEMENT OF CASH FLOWS

SARBANES-OXLEY ACT OF 2002  Commonly referred to as SOX  Banned relationships between CPA firms that might create conflict of interest  Created Public Company Accounting Oversight Board (PCOAB)

BEYOND THE STATEMENTS Horizontal Analysis – compares information in a firm’s financial statement over a period of 2 years or more. Vertical Analysis – expresses items on the balance sheet and income statement as a percentage of a key value. Ratio Analysis – compares selected items by computing percentages, rates or proportions.

MANAGERIAL ACCOUNTING VS. FINANCIAL ACCOUNTING