1. 1 Chapter 1 The Link Between Business and Accounting

2. 2 The process of identifying, measuring, and communicating financial business information to various users. The process of identifying, measuring, and communicating financial business information to various users. ‘Language of business’ ‘Language of business’ Why important to business? Why important to business? Transaction - business activity that results in an economic exchange between a business entity and a person or firm outside the entity. Transaction - business activity that results in an economic exchange between a business entity and a person or firm outside the entity. Cooking the books Cooking the booksAccounting?

3. 3 Types of Businesses  Businesses do?  For-profit - creates or adds value to earn money for its owners.  Not-for profit - provides goods or services for the sole purpose of helping people instead of making a profit

4. 4 Accounting Information Financial - outside, managerial - inside Financial - outside, managerial - inside Inventory, revenues, expenses, profit Inventory, revenues, expenses, profit Types of businesses Types of businesses Service firms - provide services Service firms - provide services Merchandising - provide products Merchandising - provide products Manufacturing - make the products they provide to their customers Manufacturing - make the products they provide to their customers Forms of business ownerships Forms of business ownerships Sole proprietorship - owned by an individual Sole proprietorship - owned by an individual Partnership - owned by two or more individuals Partnership - owned by two or more individuals Corporation - legal entity that may have many any number of owners Corporation - legal entity that may have many any number of owners

5. 5 Decisions Operating cycle - the sequence of business activities starting with cash, using cash to purchase inputs, changing those inputs into products and services, and providing product to customers, eventually getting cash back. ‘Cash to cash’ Accounting period Fiscal year, calendar year Internal users, external users

6. 6 GAAP - generally accepted accounting principles - a broad set of accounting rules that a company must follow when preparing its financial statements. GAAP - generally accepted accounting principles - a broad set of accounting rules that a company must follow when preparing its financial statements. SEC - securities and exchange commission - has the authority to monitor activities and financial reporting of corporations that sells shares of ownership on the stock exchanges. SEC - securities and exchange commission - has the authority to monitor activities and financial reporting of corporations that sells shares of ownership on the stock exchanges. FASB - financial accounting standards board - group of professional business people, accountants, and accounting scholars in the private sector who have the responsibility of setting current accounting standards. FASB - financial accounting standards board - group of professional business people, accountants, and accounting scholars in the private sector who have the responsibility of setting current accounting standards.Rules

7. 7 Balance sheet - describes the financial position of a company at a specific point in time. Balance sheet - describes the financial position of a company at a specific point in time. Monetary unit assumption - expressed in monetary units. Monetary unit assumption - expressed in monetary units. Notes to the financial statements. Notes to the financial statements. Accounting equation - assets = liabilities + owner’s equity Accounting equation - assets = liabilities + owner’s equity Assets - economic resources owned Assets - economic resources owned Liabilities - owes to creditors Liabilities - owes to creditors Owner’s equity - claims of owners to assets Owner’s equity - claims of owners to assets Basic financial statements

8. 8 Income statement - shows revenues and expenses for a specific accounting period. Income statement - shows revenues and expenses for a specific accounting period. Net income - difference between revenues and exenses Net income - difference between revenues and exenses Statement of changes in owner’s equity Statement of changes in owner’s equity Dividends, withdrawals Dividends, withdrawals Basic financial statements

9. 9 Statement of cash flows Statement of cash flows Summary of all cash that has come into and gone out Summary of all cash that has come into and gone out Three sections: Three sections: Operating - day-to-day, general running of business Operating - day-to-day, general running of business Investing - purchase and sales of assets that last longer than one year Investing - purchase and sales of assets that last longer than one year Financing - long-term creditors or owners Financing - long-term creditors or owners Notes to financial statements Notes to financial statements Basic financial statements

10. 10 Beginning assets are $120,000 and stockholder’s equity is $30,000. Liabilities increased $15,000 during the year, and the ending assets are $145,000. What was the ending stockholder’s equity?

11. 11 Financial statement equations Income statement - revenues - expenses = net income Income statement - revenues - expenses = net income Statement of retained earnings - bb retained earnings + net income - dividends = eb retained earnings Statement of retained earnings - bb retained earnings + net income - dividends = eb retained earnings Balance sheet - assets = liabilities + stockholder’s equity Balance sheet - assets = liabilities + stockholder’s equity

12. 12 Beginning of yearassets = liabilities + owner’s equity 120,000 = 30,00090,000 End of year 145,00045,000100,000 Assume that revenue is $40,000, dividends are $5,000 and common stock is issued for $22,000. How much are the expenses? Was there a net income or net loss?

13. 13 Beginning stockholder’s equity90,000 + revenue40,000 - - expenses ? - + issuance of common stock22,000 - - dividends(5,000) - Ending stockholder’s equity100,000 - Expenses = $47,000 - Net loss = $7,000

14. 14 Reporting to SEC 10-K - audited financial statements 10-K - audited financial statements

15. 15 Financial statement analysis Ratio analysis - using ratios to analyze a firm’s past performance and forecast its future performance Ratio analysis - using ratios to analyze a firm’s past performance and forecast its future performance Ratio - mathematical relationship - quantities Ratio - mathematical relationship - quantities Profitability Profitability Liquidity - ability to pay its current bills Liquidity - ability to pay its current bills Solvency - ability to pay its long-term obligations Solvency - ability to pay its long-term obligations Market - relate the market price of stock to what is received as dividends Market - relate the market price of stock to what is received as dividends

16. 16Risks Lack of management systems Lack of management systems Lack of vision and purpose by the principals Lack of vision and purpose by the principals Lack of financial planning and review Lack of financial planning and review Ethics - financial reporting Ethics - financial reporting Sarbanes-Oxley Act of 2002 - a law passed by Congress that sets new rules for the ways corporations govern themselves, including rules to make a corporation’s internal controls more effective and procedures for increasing the understandability of financial reporting. Sarbanes-Oxley Act of 2002 - a law passed by Congress that sets new rules for the ways corporations govern themselves, including rules to make a corporation’s internal controls more effective and procedures for increasing the understandability of financial reporting. Audit - an examination of a company’s financial statement by certified public accountants to provide evidence that the financial position of the company is fairly stated. Audit - an examination of a company’s financial statement by certified public accountants to provide evidence that the financial position of the company is fairly stated.