Chapter 12: The Role Of Accounting In Business Exploring Business 2.0 © 2012 Flat World Knowledge

Chapter Objectives 1.Define accounting and explain the differences between managerial accounting and financial accounting. 2.Identify some of the users of accounting information and explain how they use it. 3.Understand the function of the income statement. 4.Understand the function of the balance sheet. 5.Understand the function of the statement of owner’s equity. 6.Understand the difference between cash-basis and accrual accounting. 7.Understand the purpose of a statement of cash flows and describe its format. Exploring Business 2.0 © 2012 Flat World Knowledge

Chapter Objectives 8.Evaluate a company’s performance using financial statements and ratio analysis. 9.Understand why it’s not a good idea to falsify financial statements. 10.Appreciate the background behind stricter legal and professional standards in U.S. business and accounting practice. 11.Understand ethics and their importance in the accounting profession. 12.Identify career opportunities in accounting. Exploring Business 2.0 © 2012 Flat World Knowledge

Stakeholders “…parties who are interested in the activities of the business because they’re affected by them…” Exploring Business 2.0 © 2012 Flat World Knowledge

Accounting “…measuring and summarizing business activities, interpreting financial information, and communicating the results to management and other decision makers.” Exploring Business 2.0 © 2012 Flat World Knowledge

Fields of Accounting  Management Accounting – provides information to decision makers inside the organization to help operate the business  Financial Accounting – furnishes information to individuals and groups inside/outside the organization to assess the firm’s financial performance Exploring Business 2.0 © 2012 Flat World Knowledge

Management Accounting “…provides… reports… tailored to the needs of individual managers…(in a) relevant, accurate, timely …format…(to aid) in making decisions.” Exploring Business 2.0 © 2012 Flat World Knowledge

Financial Accounting  Financial Statements Income Statement Statement of owner’s equity Balance Sheet Statement of Cash Flows  Generally Accepted Accounting Principles (GAAP) Exploring Business 2.0 © 2012 Flat World Knowledge

Users Of Accounting Information Owners & Managers Investors & Creditors Government Agencies Other Users Exploring Business 2.0 © 2012 Flat World Knowledge

The Functions of Financial Statements Income Statement – Reports a company’s sales, expenses, and net profit or loss Balance Sheet – Reports a company’s assets, liabilities and owners’ equity (owners’ investment in business) Statement of Cash Flows – shows much much cash the business has coming in and going out Exploring Business 2.0 © 2012 Flat World Knowledge

Income Statement  Revenues and Expenses  Cost of Goods Sold  Operating Expenses  Gross Profit  Net Income Exploring Business 2.0 © 2012 Flat World Knowledge

Stress-Buster Income Statement Exploring Business 2.0 © 2012 Flat World Knowledge

Proposed Income Statement #1 Exploring Business 2.0 © 2012 Flat World Knowledge

Proposed Income Statement #2 Exploring Business 2.0 © 2012 Flat World Knowledge

Breakeven Analysis $ Fixed Costs $ Variable Costs $ Contribution Margin Per Unit $ Breakeven Point In Units “…total sales revenue must exactly equal all your expenses…” Exploring Business 2.0 © 2012 Flat World Knowledge

Proposed Income Statement #3 Exploring Business 2.0 © 2012 Flat World Knowledge

Balance Sheet  Assets – Business resources  Liabilities – Debts owed to outside entities  Owner’s Equity – Amount invested “…tells you what you have (and where it came from) at a specific point in time …” Exploring Business 2.0 © 2012 Flat World Knowledge

Accounting Equation Assets = Liabilities + Owner’s Equity Exploring Business 2.0 © 2012 Flat World Knowledge

Stress-Buster Balance Sheet Exploring Business 2.0 © 2012 Flat World Knowledge

Stress-Buster Balance Sheet #2 Exploring Business 2.0 © 2012 Flat World Knowledge

The Statement of Owner’s Equity Exploring Business 2.0 © 2012 Flat World Knowledge

How Do Financial Statements Relate to One Another? Exploring Business 2.0 © 2012 Flat World Knowledge

Accrual Accounting  Account Receivable  Account Payable  Inventory  Long-term assets “…accountant records a transaction when it occurs …” Exploring Business 2.0 © 2012 Flat World Knowledge

Classified Balance Sheet  Assets  Current- Convert to cash within a year  Long-Term- Intend to hold for more than a year  Liabilities  Current- Pay off within a year  Long-Term- Not due for more than a year Exploring Business 2.0 © 2012 Flat World Knowledge

College Shop Balance Sheet Exploring Business 2.0 © 2012 Flat World Knowledge

College Shop Income Statement Exploring Business 2.0 © 2012 Flat World Knowledge

Statement of Owner’s Equity Statement of Owner’s Equity Exploring Business 2.0 © 2012 Flat World Knowledge

End-of-Year Balance Sheet Exploring Business 2.0 © 2012 Flat World Knowledge

Statement Of Cash Flows “…tells… where cash came from and where it went.” Activities: Operating Operating Investing Investing Financing Financing Exploring Business 2.0 © 2012 Flat World Knowledge

Cash Flow Statement Exploring Business 2.0 © 2012 Flat World Knowledge

Comparative Income Statement Exploring Business 2.0 © 2012 Flat World Knowledge

Income Statement With Vertical Percentage Analysis Exploring Business 2.0 © 2012 Flat World Knowledge

Ratio Analysis % Profit Margin % Management Efficiency % Management Effectiveness % Financial Condition Exploring Business 2.0 © 2012 Flat World Knowledge

Gross Profit Margin Gross Profit Margin = Gross Profit Sales Exploring Business 2.0 © 2012 Flat World Knowledge

Net Profit Margin Net Profit Margin = Net Profit Sales Exploring Business 2.0 © 2012 Flat World Knowledge

Management Efficiency Ratios These ratios reveal the way in which assets (shown on the balance sheet) are being used to generate income (shown on the income statement) To compute this group of ratios, you must look at both statements Exploring Business 2.0 © 2012 Flat World Knowledge

Comparative Balance Sheet Exploring Business 2.0 © 2012 Flat World Knowledge

Inventory Turnover Inventory Turnover = Sales Inventory Exploring Business 2.0 © 2012 Flat World Knowledge

Return On Assets Return On Assets = Net Profit Total Assets Exploring Business 2.0 © 2012 Flat World Knowledge

Current Ratio Current Ratio = Current Assets Current Liabilities Exploring Business 2.0 © 2012 Flat World Knowledge

Debt-To-Equity Total Debt to Equity = Total Liabilities Total Equity Exploring Business 2.0 © 2012 Flat World Knowledge

Interest Coverage Interest Coverage = Operating Income Interest Expense Exploring Business 2.0 © 2012 Flat World Knowledge

Basic Things to Succeed  Good profit on each item  Move inventory  Good return on investment  Watch cash Exploring Business 2.0 © 2012 Flat World Knowledge

Challenges To Accounting Profession  WorldCom  Enron Exploring Business 2.0 © 2012 Flat World Knowledge

Ethical Accounting  Sarbanes-Oxley Act  Public Company Accounting Oversight Board (PCAOB)  The Profession’s Code of Ethics Exploring Business 2.0 © 2012 Flat World Knowledge

Careers In Accounting  “People Profession”  Skills Analytical Interpersonal Communication  Job Prospects Certified Public Accountants- Audits Private Accountants- Controller Certified Management Accountants Exploring Business 2.0 © 2012 Flat World Knowledge