1. ACCOUNTING: The Language of Business
Lecture 2

2. Learning Objectives (LO)
After studying this chapter, you should be able to
Explain how accounting information assists in making decisions
Describe the components of the balance sheet
Analyze business transactions and relate them to changes in the balance sheet
Prepare a balance sheet from transactional data
Compare the features of sole proprietorships, partnerships, and corporations

3. Learning Objectives (LO)
After studying this chapter, you should be able to
Identify how the owners’ equity section in a corporate balance sheet differs from that in a sole proprietorship or partnership
Explain the regulation of financial reporting including differences between U.S. GAAP an IFRS
Describe auditing and how it enhances the value of financial information
9. Evaluate the role of ethics in the accounting profession
3 of 35

4. LO – 6 Differences in Reporting Owners’ Equity
Proprietorships and Partnerships
Owners’ equities = “Capital”
Owners’ equities are recorded in the capital account
Corporations
Owners’ equities (Residual interests in the company) also called Stockholders’/Shareholders’ equity
Total capital investment = Paid-in capital (e.g., $20)
Common stock recorded at par/stated value
Par/stated value = what is printed on the stock
One share × $5 par value = $5
Paid-in capital in excess of par value
One share × ($20 – $5 par value) = $15

5. LO – 6 Differences in Reporting Owners’ Equity
Shareholders elect a board of directors to look out for their interests
Board of Directors
Often include outsiders such as CEOs and presidents of other corporations, academics, attorneys, and community representatives
Can also include insiders – company’s CEO, CFO, etc.
Majority must be independent if stock is regulated
Set strategic direction of the company
Senior Managers – run day to day operations

6. LO – 7 Regulation of Financial Reporting
Federal Government
Legislative (Congress) passes laws and funding for federal agencies
Judicial – enforces laws
Executive – Proposes, signs, administers budgets and laws (see SEC below)
SEC – Has statutory authority to
regulate investment management activities
regulate stock market activities
investigate violations of security laws
control financial reports and their preparers

7. LO – 7 Regulation of Financial Reporting
Financial Accounting Standards Board (FASB)
Independent nonprofit organization
Writes accounting/reporting standards for not-for-profit organizations
Has delegated authority from SEC to create and amend financial accounting/reporting standards for for-profit organizations subject to control by the SEC
Authority may be rescinded at any time

8. LO – 7 Regulation of Financial Reporting
FASB (continued)
Does not have investigatory or enforcement authority
Published over 160 separate opinions that include Generally Accepted Accounting Principals (GAAP)
Selected recent/current projects
Codification (now only one set of guidance)
Convergence with the IFRS

9. LO – 7 Regulation of Financial Reporting
International Accounting Standards Board (IASB)
Not a U.S. governmental agency
United States is represented on the board
Creates and amends financial accounting and reporting standards for European Union and many other countries
Selected current projects:
Convergence with U.S. GAAP

10. LO – 7 Regulation of Financial Reporting
Sarbanes Oxley Act – 2002
Board of directors must have an audit committee composed only of “independent” directors
Management must examine and certify the adequacy of internal controls used by its company
Prohibits public accounting firms from providing audit clients with certain non-audit services
Requires rotation every 5 years of the lead audit or coordinating partner and the reviewing partner

11. LO – 7 Regulation of Financial Reporting
Sarbanes Oxley Act – 2002 (continued)
Established the Public Company Accounting Oversight Board (PCAOB)
Subordinate to the SEC
Writes Generally Accepted Auditing Standards (GAAS) that external auditors must follow when conducting an audit
Writes policies directed toward management regarding internal controls of the companies
Investigates audit and management compliance
SEC approves recommended disciplinary actions

12. LO – 7 Regulation of Financial Reporting
American Institute of Certified Public Accountants (AICPA)
National voluntary membership association of CPAs
Sets strategic direction for the profession
Members must abide by a code of conduct
Writes/grades/updates the Uniform CPA Examination
XXX Society of CPAs
Each state has its own society
Advocate for the profession within the state
Provides multiple goods and services to members

13. LO – 7 Regulation of Financial Reporting
State Boards of Accountancy (SBA)
Sets knowledge, integrity, and ethics policies
Uses the Uniform CPA Exam, written and graded by the AICPA, as part of the licensing process
Licenses and disciplines CPAs
Requires certain number of professional-subject courses (continuing professional education [CPE]) to be taken within a period of time to maintain license
Works with other SBA on reciprocity of CPA licenses between states

14. LO – 8 Auditing 1929 Stock Market Crash – Senior managers
Rewarded in part by content of financial statements
Prepare financial statements
Potential for bias
SEC Act of 1934 required public companies to
have their financial statements audited by independent outside auditors who are CPAs
File results with the SEC
Shareholders – audit report adds credibility to the financial statements they use when making decisions

15. LO – 8 Auditing
The four largest international public accounting firms are
Deloitte Touche Tohmatsu
Ernst & Young
KPMG International
PricewaterhouseCoopers
97% of the firms listed on the NYSE are clients of these four firms
National, regional and local firms also exist
Offer fee-based tax, consulting, auditing services

16. LO – 8 Auditing
Audit – examination of a company’s transactions and the resulting financial statements
Standard report includes the following topics:
Introduction – what was audited?
Scope – how was the audit conducted?
Opinion as to
fairness of financial statements
degree to which GAAP was followed
Other topics (e.g., changes in principals, adequacy of management’s review of internal controls) (

17. LO – 9 Ethics Ethics – doing what is right for all stakeholders
Ethics are an integral part of the accounting profession and are stressed in guidance from the following:
Professional societies (AICPA, IMA, state societies)
Regulatory bodies (SEC, PCAOB, SBA)
Accounting firms (international, national, regional, local)
Publically traded firms (set the “tone at the top”)
Nevertheless – greed often trumps ethics

18. Miscellaneous
The Governmental Accounting Standards Board (GASB) regulates disclosures for nonfederal governmental organizations (states and below, organizations, etc.)
More CEOs started out in finance or accounting than any other area, i.e.,
Accounting provides an excellent training ground for future managers and executives