Chapter 1 The Role of Accounting in Starting a Business © 2009 The McGraw-Hill Companies, Inc.

Slide 2 Business Types Service Companies Manufacturers Merchandisers Most businesses exist so their owners can earn a profit. Provide a service to customers or clients. make products from raw inputs. sell goods that manufacturers produce.

Slide 3 Organizational Forms Partnerships are owned by two or more people. Each partner is personally liable for all debts of the business. Corporations are separate entities, both legally and from an accounting perspective. Owners of corporations (stockholders) cannot be held liable for debts of the corporation. Sole Proprietorships are owned by one individual who often manages the business and who is personally liable for all the business’s debts.

Slide 4 Organizational Forms Corporations Public Companies sell their stock on the stock market. Private Companies sell their stock privately. Stockholders can sell all or part of their shares to someone else.

Slide 5 Accounting Defined Captures (analyzes, records, and summarizes) a business’s activities affecting its financial performance Communicates the results to decision makers Internal decision makers External decision makers Accounting is often referred to as the language of business.

Slide 6 Accounting Professionals Public Accountants charge a fee for their services to business and nonprofit organizations. Private Accountants are employed by a single business or nonprofit organization.

Slide 7 The Accounting System and Decision Makers Accounting System Financial Accounting System Periodic financial statements and related disclosures Managerial Accounting System Detailed plans and continuous performance reports External Decision Makers Investors, creditors, suppliers, customers Internal Decision Makers Managers throughout the organization

Slide 8 The Accounting Equation Resources a Business Owns Claims to Resources a Business Owes to creditors to the owner Basic Accounting Equation

Slide 9 Assets Resources controlled by the business that have measurable value and are expected to provide future benefits to the company. Cash SuppliesFurniture Equipment

Slide 10 Liabilities Amounts owed by the business to creditors. Notes Payable Accounts Payable

Slide 11 Owner’s Equity Owner’s claim to the business resources. Ownership Profits

Slide 12 Owner’s Equity + PROFITS+ Owner Investments- Owner Withdrawals - Expenses+ Revenues= Net Income

Slide 13 Revenues and Expenses Revenues Sales of goods or services to customers. They are measured at the amount the business charges the customer. Expenses The costs of business necessary to earn revenues, including wages to employees, advertising, insurance, and utilities. Separate Entity Assumption Requires that a business’s activities be recorded and reported separately from activities of its owners.

Slide 14 Pizza Aroma Illustration Activity 1: Obtain Contributions from Owners. Mauricio contributes $30,000 of his personal funds to start the business. Activity 2: Borrow from Bank. Pizza Aroma obtains a $20,000 loan from a local bank.

Slide 15 Pizza Aroma Illustration Activity 3: Purchase Equipment. Pizza Aroma buys ovens, chairs, tables, counters, a refrigerator, a computer, a cash register, and pots, all for $40,000 in cash. Activity 4: Earn Revenues. Pizza Aroma sells pizza to customers at the restaurant for $10,000 cash and delivers $1,000 in pizza on account to local colleges.

Slide 16 Pizza Aroma Illustration Activity 5: Incur Expenses. Pizza Aroma buys and uses $4,000 in supplies and pays $2,000 for rent, $300 for insurance, $100 for advertising, $2,000 in wages, and $600 in utilities. Pizza Aroma paid cash for all expenses.

Slide 17 Pizza Aroma Illustration Activity 6: Purchase Supplies on Account. Pizza Aroma purchases “on account” $3,000 of pizza ingredients and supplies (flour, tomatoes, cheese, napkins, pizza boxes, utensils, and cups). Activity 7: Distribute Profits to Owner. Pizza Aroma distributes $1,000 to Mauricio at the end of the first month.

Slide 18 Pizza Aroma Activity Summary Here is a summary of the business activities for Pizza Aroma for the first month of operations.

Slide 19 Typical Account Titles Assets Cash Short-Term Investments Accounts Receivable Inventory Supplies Prepaid Expenses Land Building Equipment Long-Term Investments Intangible Assets “Specific type of” Asset Liabilities Accounts Payable Short-term Notes Payable Wages Payable Taxes Payable Interest Payable Unearned Revenues Long-term Notes Payable Bonds Payable “Specific type of” Payable Owner’s Equity “Proprietor’s Name,” Capital “Proprietor’s Name,” Drawing Revenues Sales Revenue Fee Revenue Investment Revenue Pizza Revenue “Specific type of” Revenue Expenses Cost of Goods Sold Advertising Expense Insurance Expense Rent Expense Interest Expense Wages Expense Supplies Expense Utilities Expense “Specific type of” Expense Here is a list of common account titles that most business use.

Slide 20 Financial Statements Income Statement Statement of Owner’s Equity Balance Sheet Statement of Cash Flows

Slide 21 Income Statement Heading Name of the entity Title of the statement Accounting period Revenues earned from the sale /delivery of pizza to customers Expenses are costs incurred during the period to earn revenue

Slide 22 Statement of Owner’s Equity Purpose Reports the changes in the capital account since the beginning of the period

Slide 23 Balance Sheet Purpose Reports at a point in time: 1.What a business owns (assets) 2.What it owes to creditors (liabilities) 3.What is left over for the company’s owner(s). BASIC ACCOUNTING EQUATION Assets = Liabilities + Owner’s Equity

Slide 24 Statement of Cash Flows Purpose Summarizes how a business’s operating, investing and financing activities caused its cash balance to change over a particular period of time.

Slide 25 Notes to the Financial Statements Notes help financial statement users understand how the amounts were derived and what other information may affect their decisions.

Slide 26 Relationships among the Financial Statements Net income flows from the Income Statement to the Statement of Retained Earnings.

Slide 27 Relationships among the Financial Statements

Slide 28 Relationships among the Financial Statements Cash on the Balance Sheet and Cash at End of Year on the Statement of Cash Flows agree.

Slide 29 Summary of Four Basic Financial Statements

Slide 30 Generally Accepted Accounting Principles GAAP are the underlying rules for financial reporting and are established by the Financial Accounting Standards Board (FASB) under the authority granted by the Securities and Exchange Commission (SEC). FASB SEC GAAP Auditors report whether companies used GAAP PCAOB Auditing Rules Under authority granted by the SEC, The Public Company Accounting Oversight Board (PCAOB) establishes the rules used by auditors, who report on whether a company’s financial statements are, in fact, prepared following GAAP.

Slide 31 Ethical Conduct AICPA Code of Professional Conduct When faced with an ethical dilemma, follow this three-step process: 1.Identify who will benefit from the situation and how others will be harmed. 2.Identify the alternative courses of action. 3.Choose the alternative that is the most ethical – and that you would be proud to have reported in the news.

Slide 32 Addressing Ethical Dilemmas in the Workplace Sarbanes-Oxley Act of 2002 Top managers sign a report certifying their responsibilities for the financial statements Maintain an audited system of internal controls to ensure accuracy in accounting reports Maintain an independent committee to ensure managers cooperate with auditors

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