1. DECISION MAKING BY THE NUMBERS
CHAPTER 8: Accounting
DECISION MAKING BY THE NUMBERS

2. Market Information Goal of business: To create wealth
Competing for transactions in the market
How can you tell how well you are doing?
Measure individual transactions
Put them all together –
How much “stuff” (acquired wealth) do you have
Where did it come from? (assets = liabilities + owners equity)
How much new wealth are you creating with it? (revenue - expense = profit)

3. Financial statements: the main output of financial accounting
Financial accounting includes three basic financial statements:
Balance Sheet
assets: value of the stuff the you or the organization controls
liabilities: debt claims against the stuff
owners’ equity: owners’ claims against the stuff
Income Statement
revenues ($ coming in)
expenses ($ going out)
Statement of Cash Flows
Companies with more than $10 million in assets and a class of equity securities that is held by more than 500 owners must file annual and other periodic reports, regardless of whether the securities are publicly or privately traded.
The 10-K includes information such as company history, organizational structure, executive compensation, equity, subsidiaries, and audited financial statements, among other information.

4. The Independent Auditor’s Report: A Necessary Stamp of Approval
Publicly traded corporations are required to have a CPA firm perform an external audit
Rigorous Process
Check figures and methods
Physical Counts
The auditor will issue an unqualified, qualified or adverse opinion
Auditors must be independent

5. Checking Out the Notes to Financial Statements: What’s in the Fine Print?
Additional information may be required to explain the numbers, and notes can be very revealing:
Can be many pages…
Additional information about operations
Clarify and supplement numbers
Explain accounting methods or changes
Detail status of lawsuits
Another important section: Management’s Discussion and Analysis

6. Managerial Accounting vs. Financial Accounting
Purpose
Primarily intended to provide information to external stakeholders; stockholders, creditors, and government regulators. Information is generally available to the general public.
Primarily intended to provide information to internal stakeholders; managers of specific departments or divisions. Information is proprietary and is not available to the general public.
Type of Information Presented
Focuses almost exclusively on financial information.
Provides both financial and nonfinancial information.
Nature of Reports
Prepares a standard set of financial statements.
Prepares customized reports to deal with specific problems or issues.
Timing of Reports
Presents financial statements on a predetermined schedule – usually quarterly and annual.
Creates repots upon request rather than on a predetermined schedule.
Adherence to Accounting Standards
Governed by a set of generally accepted accounting principles - GAAP
Uses procedures developed internally that are not required to follow GAAP
Time period Focus
Summarizes past performance and its impact on the form’s present condition.
Provided reports dealing with past performance, but also involves making projections about the future when dealing with planning issues.

7. Looking for Trends in Comparative Statements
The SEC requires publicly traded companies to provide comparative financial statements
2-3 years of figures side-by-side
View changes over a period of time
Trace what has happened to key assets and liabilities
Comparative analysis is a form of horizontal analysis

8. Types of Costs
Implicit costs– opportunity costs; not monetary but what is given up
Out-of-pocket costs – also called explicit costs; actual expenditures. Payments made to suppliers, workers and rent for office space
Fixed costs– do not changes with levels of production
Variable costs– rise and vary when the firm produces goods and services

9. Developing the Key Budget Components: One Step at a Time
Master Budget –
brings together all
of the budgets to
represent the
overall plan
Operating Budgets identify sales and production goals.
Sales Budget
Production Budget
Direct Labor Budget
Financial Budgets focus on the firm’s financial objectives.
Cash Budget
Capital Budget

10. Balance sheet: what we own and how we got it
Balance Sheet – summarizes a firm’s financial position at a specific point in time.
Liabilities –
indicates what
the firm owes to
non-owners
Assets –
things of
value that
the firm owns
Owner’s
Equity –
the claims owners
have against
their firm’s
assets = +

11. Sample balance sheet

12. Foundation & Accounting Numbers
Balance Sheet
Total %
Assets
12/31/08
Cash
$5,593
26.8%
Accounts Receivable
$3,353
16.1%
Inventory
$2,353
11.3%
Total Current Assets
$11,299
54.2%
Plant & Equipment
$14,400
69.1%
Accumulated Depreciation
($4,848)
-23.2%
Total Fixed Assets
$9,552
45.8%
Total Assets
$20,852
100.0%

13. Foundation & Accounting Numbers
Liabilities & Owner's Equity
Total %
Accounts Payable
$2,855
13.7%
Current Debt $0
0.0%
Long Term Debt
$5,200
24.9%
Total Liabilities
$8,055
38.6%
Common Stock
$2,313
11.1%
Retained Earnings
$10,485
50.3%
Total Equity
$12,798
61.4%
Total Liability & Owner’s Equity
$20,852
100.0%

14. The income statement: how did we do?
Income Statement – summarizes a firm’s operations over a given period of time in terms of profit and loss.
Revenue–
the increase in
the amount of
assets the firm
earns
Expenses –
the cash the firm
spends or other
assets it uses to
generate
revenue
Net Income –
the profit or loss
the firm earns - =

15. Sample income statement
Your simulation project calls this “contribution margin”.
Your simulation project calls this “variable costs”.

16. Foundation & Accounting Numbers
Income Statement
Total %
Sales
$40,800
100.0
Variable Costs
Direct Labor
$12,138
29.7
Direct Material
$20,240
49.6
Inventory Carry
$282
0.7
Total Variable Cost
$32,660
80.0
Contribution Margin
$8,140
20.0

17. Period Costs % Depreciation $960 2.4 SGA: R&D $0 0.0 $1,000 2.5 $637
Promotions
$1,000
2.5
Sales
Administration
$637
1.6
Total Period Costs
$3,597
8.8
Net Margin
$4,543
11.1
Other
EBIT
Short Term Interest
Long Term Interest
$641
Taxes
$1,365
3.3
Profit Sharing
$51
0.1
Net Profit
$2,485
6.1

18. Statement of cash flows: show me the money
Operations
Investing
Financing
Note the other statements that are relevant for management and audit.
Increase and decrease from all three sources
Total amount of cash on hand
Stakeholders want to know if there is adequate cash to pay workers, creditors, suppliers and IRS

19. Sample statement of cash flows

20. Foundation & Accounting Numbers
Cash Flows from Operating Activities:
2011
Net Income (Loss)
$2,485
Depreciation
$960
Extraordinary gains/losses/writeoffs $0
Accounts Payable
$855
Inventory
($2,353)
Accounts Receivable
$3,647
Net cash from operations
$5,593
Cash Flows from Investing Activities:
Plant Improvements
Cash Flows from Financing Activities:
Dividends Paid
($1,000)
Sales of Common Stock
Purchase of Common Stock
Cash from long term debt
Retirement of long term debt
Change in current debt (net)
Net cash from financing activities
Net change in cash position
$4,593
Closing cash position

21. Sarbanes-Oxley act of 2002 Commonly referred to as SOX
Banned relationships between CPA firms that might create conflict of interest
Created Public Company Accounting Oversight Board (PCOAB)
Click the link to view the notes in McDonald’s Annual report noting the independence of their auditors. Note that much of the increased demand in accounting careers are an indirect result of the scandals and the creation of new laws.

22. Balance Sheet Horizontal Analysis – compares information in a firm’s financial statement over a period of 2 years or more.
ASSETS
2014
2013
Cash
$2,826
5.3%
$4,256
11.9%
Accounts Receivable
$11,688
22.1%
$9,068
25.4%
Inventory
$4,153
7.8% $0
0.0%
Total Current Assets
 $18,667
35.2%
$13,324
37.3%
Plant & Equipment
$44,834
84.6%
$30,208
84.5%
Accumulated Depreciation
($10,536)
-19.9%
($7,787)
-21.8%
Total Fixed Assets
 $34,298
64.8%
$22,421
62.7%
Total Assets
 $52,964
100.0%
$35,745
LIABILITIES & OWNERS' EQUITY
Accounts Payable
$5,426
10.2%
$4,204
11.8%
Current Debt
$867
2.4%
Long Term Debt
$4,333
8.2%
12.1%
Total Liabilities
 $9,759
18.4%
$9,404
26.3%
Common Stock
$18,105
34.2%
$8,978
25.1%
Retained Earnings
$25,100
47.4%
$17,362
48.6%
Total Equity
$43,205
81.6%
$26,340
73.7%
Total Liab. & O. Equity
$52,964

23. Income Statement Vertical Analysis – expresses items on the balance sheet and income statement as a percentage of a key value.
Able
Asable
Abe
Amable
Ale NA
2019 Total
Sales
$56,852
$56,826
$66,285
$26,942 $0
$206,905
100.0%
Variable Costs:
Direct Labor
$6,894
$7,401
$9,968
$4,950
$29,213
14.1%
Direct Material
$19,086
$23,446
$25,368
$10,824
$78,724
38.0%
Inventory Carry
$162
$320
$482
0.2%
Total Variable
$26,142
$30,846
$35,336
$16,094
$108,419
52.4%
Contribution Margin
$30,710
$25,980
$30,949
$10,848
$98,486
47.6%
Period Costs:
Depreciation
$3,467
$2,153
$2,880
$693
$9,193
4.4%
SG&A: R&D
$622
$541
$588
$410
$1,000
$3,162
1.5%
    Promotions
$1,740
$2,500
$2,000
$8,740
4.2%
    Sales
$3,000
$1,500
$10,500
5.1%
    Admin
$673
$785
$319
$2,449
1.2%
Total Period
$9,502
$8,867
$9,753
$4,922
$34,044
16.5%
Net Margin
$21,208
$17,113
$21,196
$5,925
($1,000)
$64,442
31.1%
Other
$1,301
0.6%
EBIT
$63,142
30.5%
Short Term Interest
0.0%
LongTerm Interest
$1,258
Taxes
$21,659
10.5%
Profit Sharing
$804
0.4%
Net Profit
$39,420
19.1%