TO ACCOMPANY HORNGREN HARRISON BAMBER BEST FRASER WILLETT

Accounting and the Business Environment Chapter 1 HORNGREN ♦ HARRISON ♦ BAMBER ♦ BEST ♦ FRASER ♦ WILLETT

1 - 3 Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Objectives 1.Use accounting vocabulary for decision making 2.Apply accounting concepts and principles to business situations 3.Use the accounting equation to describe an organisation’s financial position 4.Use the accounting equation to analyse business transactions 5.Prepare and use the financial statements 6.Evaluate the performance of a business

1 - 4 Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Objective 1 Use accounting vocabulary for decision making.

1 - 5 Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia is an information system that... measures business activities, processes information, and... communicates financial information. Accounting...

1 - 6 Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia is called the language of business. Accounting...

1 - 7 Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia External users make decisions about the entity. External users make decisions about the entity. Internal users make decisions for the entity. Internal users make decisions for the entity. Users of Accounting Information

1 - 8 Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Management Accounting Financial Accounting Fields of Accounting

1 - 9 Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia ICAA and CPPA joint Code of Professional Conduct ICAA and CPPA joint Code of Professional Conduct Standards of Ethical Conduct of individual companies Standards of Ethical Conduct of individual companies Standards of Professional Conduct

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Proprietorships (sole traders) Proprietorships (sole traders) Partnerships Company Types of Business Organizations

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Proprietorships l What are some advantages? – total undivided authority – no restrictions on type of business – must be legal l What are some disadvantages? – unlimited liability – limitation on size – fund raising power

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Partnerships l What are some advantages? – better credit standing – possibly – more brain power, but consultation with partners required l What are some disadvantages? – unlimited personal liability for partners – need for written partnership agreement

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Companies l What are some advantages? – separate legal existence – limited liability of shareholders (owners) – transferability of ownership relatively easy l What are some disadvantages? – separation of ownership and control – extensive governmental regulation

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Objective 2 Apply accounting concepts and principles to business situations.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia To provide information useful for making investment and lending decisions To provide information useful for making investment and lending decisions Generally Accepted Accounting Principles l What is the primary objective of financial reporting?

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia The Entity Concept Example l Assume that Jan decides to open up a petrol station and coffee shop. l The petrol station made $250,000 in profits, while the coffee shop lost $50,000.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia The Entity Concept Example l How much money did Jan make? l At a first glance, we would assume that Jan made $200,000. l However, by applying the entity concept we realize that the petrol station made $250,000 while the coffee shop lost $50,000. l Jan’s business operations are also separate from her personal affairs.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia The Time Period Concept l Or the ‘accounting time period concept’. l Unit of time for which accounting data is collected and the financial statements prepared. l In Australia many companies prepare their statements for the financial year – from July 1 to June 30 the following year.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Information must be reasonably accurate. Information must be reasonably accurate. Information must be free from bias. Information must be free from bias. Information must report what actually happened. Individuals would arrive at similar conclusions using same data. Individuals would arrive at similar conclusions using same data. The Reliability (Objectivity) Principle

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Assets and services acquired should be recorded at their actual cost. Assets and services acquired should be recorded at their actual cost. The Cost Principle

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Relates the inputs and outputs of goods and services to one another. Relates the inputs and outputs of goods and services to one another. The Matching Principle

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Recognise revenue when it is ‘earned’. GAAP recommends the accrual basis of accounting. Recognise revenue when it is ‘earned’. GAAP recommends the accrual basis of accounting. The Profit Recognition Principle

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Constrains managements’ natural optimism. Constrains managements’ natural optimism. Conservatism

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia The entity will continue to operate in the future. The entity will continue to operate in the future. The Going Concern Concept

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Australian Accounting Standards l Standards to govern measurement rules and level of disclosure. l Australian Accounting Standards Board is responsible for technical accounting standards. l Australia (like the rest of the world) is moving towards the adoption of International Accounting Standards.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Objective 3 Use the accounting equation to describe an organisation’s financial position.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Economic Resources Claims to Economic Resources The Accounting Equation Assets = Liabilities + Owner’s Equity

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Assets l What is an asset? l It is something a company owns which has future economic value e.g. – cash – accounts receivable – land and building – equipment – goodwill

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Liability l What is a liability? l It is something a company owes. – money – service – legal retainers – product – magazines l E.g. – accounts payable

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Owner’s Equity l What is owner’s equity? l It is what’s left of the assets after liabilities have been deducted. – the same as net assets – the owner’s claim on the entity’s assets

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Transactions that Affect Owner’s Equity OWNER’S EQUITY INCREASES OWNER’S EQUITY DECREASES Owner Investments in the Business Revenues Expenses Owner Withdrawals from the Business Owner’s Equity

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Revenues l What are revenues? l They are amounts received or to be received from customers for sales of products or services. – sales – performance of services – rent received – interest received

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Expenses l What are expenses? l They are amounts that have been paid or will be paid later for costs that have been incurred to earn revenue. – salaries and wages – services – supplies used – advertising

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Objective 4 Use the accounting equation to analyse business transactions.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Accounting for Business Transactions l What is a transaction? l It is any event that both affects the financial position of the business and can be reliably recorded. l It is ‘money’ into or out of the business.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Accounting for Business Transactions 1 Paula Lee invests $30,000 to begin Paula Lee eTravel. 2 Lee purchases land, paying $20,000 in cash. 3 She buys office supplies, agreeing to pay $500 in 30 days. 4 She earns and collects $5,500 revenues.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Accounting for Business Transactions 5 Lee performs services, and the client agrees to pay $3,000 within one month. 6 During the month, she pays $3,100 for expenses incurred. 7 Lee pays $300 to the store from which she purchased $500 worth of supplies. l What is the effect of these transactions on the accounting equation?

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Owner’s Assets = Liabilities + Equity 1)Cash+ $30,000+ $30,000 2)Cash– 20,000 Land+ 20,000 3) Supplies )Cash+ 5,500+ 5,500 5)Receivable+ 3,000+ 3,000 6)Cash– 3,100– 3,100 7)Cash– 300– 300 Totals+ $35, $35,400 Accounting for Business Transactions

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Accounting for Business Transactions l Notice that the equation always stays in balance. l Each transaction affects at least two accounts, sometimes more. l Some transactions affect only one side of the equation; some affect both sides.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Accounting for Business Transactions l Other transactions that took place were as follows: l The business collected $1,000 from the client. l She sold some land at cost for $9,000. l She withdrew $2,100 from the business. l (See the final result, p21 of your textbook)

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Objective 5 Prepare and use financial statements.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia – are the final product of the accounting process. – are the final product of the accounting process. – tell how the business is performing and where it stands. – tell how the business is performing and where it stands. Financial Statements...

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Financial Statements – Statement of financial performance – (For the Year [or Month] Ended 30/6/2004) – Statement of owner’s equity – (For the Year Ended 30/6/04 – Statement of financial position – (As at 30/6/04) – Statement of cash flows – (For the Year Ended 30/6/04

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Objective 6 Evaluate the performance of business.

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Relationships Among the Statements: Statement of Financial Performance Revenue: Fees earned$8,500 Expenses: Salary expense$1,200 Electricity and phone expense 400 Equipment rental expense 400 Office rent expense 1,100 3,100 Net profit $5,400

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia P. Lee, capital, April 1, 2004 $ 0 Plus Contribution of capital 30,000 Net profit $ 5,400 Less Drawings – 2,100 P. Lee, capital, April 30, 2004 $33,300 Relationships Among the Statements: Statement of Owner’s Equity

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Relationships Among the Statements: Statement of Financial Position Assets Cash$ 20,000 Accounts receivable 2,000 Supplies 500 Land 11,000 Total assets$ 33,500 Liabilities Accounts payable$ 200 Owner’s Equity P. Lee, capital 33,300 Total liabilities and owner’s equity$33,500

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Relationships Among the Statements: Statement Of Cash Flows Cash flows from operating activities: Cash receipts from services rendered$6,500 Cash payments: To suppliers$ 2,200 employees 1,200 3,400 Net cash flows from Operating activities$3,100 Cash flows from investing activities Purchase and sale of land ($11,000)

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia Cash Flows from Financing Activities: Beginning Balance 0 Investment by Owner$30,000 Drawings 2,100 Net Cash Flows from Financing Activities$27,900 Net Increase in cash$20,000 Cash at Beginning of Year 0 Cash at End of the Year$20,000 Relationships Among the Statements: Statement Of Cash Flows

Horngren ♦ Harrison ♦ Bamber ♦ Best ♦ Fraser ♦ Willett, Accounting 4e Copyright © 2004 Pearson Education Australia End of Chapter 1