KEY ACCOUNTING CONCEPTS ACTG 6920 Session 2 Professor Kile

Definition of Accounting “Accounting is a service activity whose function is to provide quantitative information, primarily financial in nature, about economic entities and is intended to be useful in making reasoned economic choices among alternative actions.”

My Definition of Accounting Accounting is a measurement system

My Definition of Accounting Accounting is a system (process) for measuring economic performance.

Accounting has Multiple Uses 1.Taxes 2.Financial Reporting 3.Internal Control 4.Decision Making 5.Contracts

Accounting Measures Performance “Earnings” is the actual performance measurement. Earnings = Income = Profit

Earnings is a Measurement “Earnings” is not a physical item; It is a measurement.

Accounting Measures Performance Earnings is a “crude” measurement. It is not a perfect measure. Accounting is not precise (“black & white).

How Accounting Measures Costs A cost to the business can be Either an ASSET (balance sheet = does not affect earnings) or an EXPENSE (income Statement = reduces earnings)

How Accounting Measures Costs Accounting rules (GAAP) determine whether or not a cost is an asset or an expense. If the cost is recorded as an asset, then the process is referred to as “CAPITALIZED”

How Accounting Measures Costs Assets are “expenses waiting to happen”. Assets generally get converted to expenses at some point. Take for example, depreciation. Depreciation is simply an accounting process to take an asset and convert it to an expense in bits and pieces over time.

EXPENSES When expenses are recognized, The expense is offset by either (1) Using up an Asset (2) Incurring a Liability

Output of Financial Accounting The output of financial Accounting is the Financial Statements

Output of Financial Accounting FOUR Financial Statements and a Comprehensive set of Footnotes 1)Income Statement 2)Balance Sheet 3)Statement of Cash Flows 4)Statement of Retained Earnings 5)Footnotes

Link Between Statements The Income Statement is Linked to The Balance Sheet through the Balance Sheet account called RETAINED EARNINGS.

Link Between Statements RETAINED EARNINGS is an EQUITY ACCOUNT. ASSETS – LIABILITIES = EQUITY. Thus, Earnings increases NET ASSETS. NET ASSETS = EQUITY.

Regulation U. S. “Public Companies” must register with the Securities & Exchange Commission (SEC).

Regulation SEC Registered Companies must Follow GAAP; Submit to a public audit; Continue to file documents with the SEC.

ASSETS “What we have” LIABILITIES “What we owe” EQUITY “The residual value” REVENUE EXPENSES 5 Different Type of Accounts

CASH – currency CASH EQUIVALENTS – investments that can be converted to cash quickly with minimal risk SHORT-TERM INVESTMENTS (MARKETABLE SECURITIES) – Investments in the stocks or bonds of other businesses or government entities- to be held one year or less ACCOUNTS RECEIVABLE – amount owed to us by our customers due to previous credit sales *ALLOWANCE FOR DOUTFUL ACCOUNTS (This is a Contra-Asset account!) – An amount set aside to represent Accounts Receivables that can not be collected INVENTORY – Items purchased and held for sale (as part of the company’s line of business) SUPPLIES – Items of small economic significance held to support operations (not held for sale). PREPAID RENT, PREPAID INSURANCE, other PREPAID EXPENSES – Future expenses that are paid in advance Current Assets

Non-Current Assets = > 1 yr. PLANT & EQUIPMENT – BUILDINGS and EQUIPMENT. EQUIPMENT would include machinery, furniture and office furnishings and a number of such items. *ACCUMULATED DEPRECIATION – (This is a contra-asset account) The total amount of depreciation that has been taken on buildings and equipment PROPERTY (LAND) – self explanatory INTANGIBLE ASSETS –Legal agreements; assets without physical form that give future value to the business. Examples include organizational costs, patents, copyrights *ACCUMULATED AMORTIZATION (This is a contra-asset account) Represents the total amount of depreciation that has been taken on the intangible assets. Amortization is simply depreciation of an intangible item.

Current Liabilities ACCOUNTS PAYABLE – amounts owed to suppliers. NOTES PAYABLE – amount of money borrowed and owed to a single lender. CURRENT MATURITIES OF LONG-TERM DEBT – portion of the amount borrowed for long-term purposes due in the coming year. The following may be referred to as “Accrued Liabilities” WAGES PAYABLE- amount owed employees UTILITIES PAYABLE – amount owed for utilities RENT PAYABLE – amount owed for rent INTEREST PAYABLE – amount owed for interest incurred on borrowing. UNEARNED REVENUE – money collected for work that has not been performed or completed.

Non-Current Liabilities BONDS PAYABLE and other LONG-TERM DEBT – amount of money borrowed that is not due within the next year. MORTGAGE PAYABLE – amount of long-term debt secured by real estate. PENSION LIABILITY – estimated amount owed in future pension costs

Equity Represent 2 ways to grow value in the company COMMON STOCK & ADDITIONAL PAID IN CAPITAL – the amount of money received from selling our own company’s stock RETAINED EARNINGS – The cumulative amount of earnings (minus all dividends paid out) from all prior periods. Also, Comprehensive Income

Revenue SALES - Revenue generated from selling inventory to customers. SERVICE REVENUE AND FEES REVENUE – Revenue generated from performing a service as one of the company’s lines of business.

Operating Expenses COST OF GOODS SOLD – the cost of inventory that has been sold WAGE EXPENSE – the cost of paying employees RENT EXPENSE – the cost of paying rent UTILITIES EXPENSE – the cost of paying utilities INTEREST EXPENSE – the cost of paying interest on borrowing DEPRECIATION EXPENSE – the amount of depreciation taken on long-term assets this year AMORTIZATION EXPENSE – the amount of amortization taken on intangible assets this year SELLING GENERAL AND ADMINSTRATIVE – a host of expense items not related to production activities.

Income Statement Accounts Other Revenue INTEREST INCOME – revenue earned by lending money GAINS ON SALES OF ASSETS – amount cleared over the cost of a sold asset Other Expenses LOSSES ON SALES OF ASSETS – amount deficient relative to the cost of a sold asset