3 In this chapter we will discuss: What is accounting? Study ObjectivesIn this chapter we will discuss:What is accounting?Elements of financial statements.Financial statements.1. On the topic, “Challenges Facing Financial Accounting,” what did the AICPA Special Committee on Financial Reporting suggest should be included in future financial statements?Non-financial Measurements (customer satisfaction indexes, backlog information, and reject rates on goods purchases).Forward-looking InformationSoft Assets (a company’s know-how, market dominance, marketing setup, well-trained employees, and brand image).Timeliness (no real time financial information)
4 What is Accounting?The purpose of accounting is to provide useful information to the business' interested users.
5 The purpose of accounting is to: What is Accounting?The purpose of accounting is to:identify, record, and communicate the economic events of anorganization tointerested users.SO 1 Explain what accounting is.
6 Three Activities What is Accounting? SO 1 Explain what accounting is. Illustration 1-1Accounting processSO 1 Explain what accounting is.
7 Who Uses Accounting Data? There are two groups of users of financial information: internal users and external users.A- INTERNAL USERS:Internal users of accounting information are those individuals inside a company who plan, organize, and run the business. These include marketing managers, production supervisors, finance directors, and company officers.B- EXTERNAL USERS:There are several types of external users of accounting information. Investors (owners) use accounting information to make decisions to buy, hold, or sell stock. Creditors such as suppliers and bankers use accounting information to evaluate the risks lending money. Labor unions want to know whether the owners can pay increased wages and benefits. Tax authorities want to know whether the company complies with the tax laws.
8 Income statement. Balance sheet. Financial statements Financial statements are a set of report which includes financial information about the business and should be prepared by the financial accountant at the end of each accounting period (month/ quarter/ year). These statements are:Income statement.Balance sheet.
9 2- The Elements of financial statements: There are 3 basic elements of financial statements, as follow:1- Assets2- Liabilities3-Owner’s Equity
10 1- Assets:Assets are resources owned by the business, expected to provide future benefits.Types of assets:Short term assets (Current assets).Long term assets
11 A: Short term assets (Current assets): Current means that the asset will be turned into cash or consumed (used up) in the next year. Current assetsinclude:CashSuppliesInventory:“Goods held for resale to customers”Accounts Receivable (AR):an asset created by selling products or services on credit. It reflects amounts due from customer. Oral promise.Notes Receivable (NR):an asset created by selling products or services on credit and gets note - written promise
12 b. Long term assets (Fixed assets). Long term assets are assets will be used over a long time period and will not be quickly turned into cash, like:LandBuildingEquipmentCars, TrucksFurniture
13 2- Liabilities:Liabilities are debts or obligations of a business. They are rights of others against assets of the business.
14 Types of liabilities: a- Short term liabilities (Current liabilities) Short term liabilities are liabilities will be paid in the next year, like:Accounts payable (AP): amounts owed to the suppliers from the purchase of goods on account.Notes payable (NP): amounts owed to the suppliers or to the bank that are represented by a formal agreement called a note.Expenses payable (expenses not paid yet, like salaries payable, rent payable,…)b- Long term liabilities, like: Bank loans
15 3- Owner's Equity (O.E):Owner's Equity is the right of Owners on the assets.Owner's Equity includes:A- Capital (resources the owner puts into the business)B- Net profit (income) or loss = Revenues – ExpensesRevenues are increases in O.E resulting from business activities.Revenues result from the sale of merchandise or performance of service.
16 Expanses are decreases in O.E resulting from operating the business. They are the cost of assets consumed or services used in the process of earning revenues. Such as:- Rent expenses.- Salaries expenses.- Advertising expenses.- Insurance expenses.- Telephone expanses.
17 A net income means that revenues >expenses. A net loss means that revenues < expenses.
18 C. Drawings: are withdrawals of cash or other assets from the business by the owner for his personal use.
19 _____ 1. Accounts receivable _____ 2. Accounts payable Exercise (1):Classify each of these items as an asset (A), liability (L), or owner’s equity (OE)._____ 1. Accounts receivable_____ 2. Accounts payable_____ 3. Nouran’s, Capital_____ 4. Office supplies_____ 5. Advertising expense_____ 6. Cash_____ 7. Note payable_____ 8. Land
21 3. Net income results when a. Assets > Liabilities.b. Revenues = Expenses.c. Revenues > Expenses.d. Revenues < Expenses.
22 Financial StatementsCompanies prepare tow financial statements from the summarized accounting data:Income StatementBalance SheetSO 8 Understand the four financial statements and how they are prepared.
23 Financial Statements Income Statement Reports the revenues and expenses for a specific period of time.Net income – revenues exceed expenses.Net loss – expenses exceed revenues.Illustration 1-9Financial statements andtheir interrelationshipsSO 8 Understand the four financial statements and how they are prepared.
24 Financial Statements Balance Sheet Illustration 1-9Financial statements andtheir interrelationshipsSO 8 Understand the four financial statements and how they are prepared.
25 Forms of Business Ownership ProprietorshipPartnershipCorporationGenerally owned by one person.Often small service-type businessesOwned by two or more persons.Often retail and service-type businessesOwnership divided into shares of stockService Cost - Actuaries compute service cost as the present value of the new benefits earned by employees during the year. Future salary levels considered in calculation.Interest on Liability - Interest accrues each year on the PBO just as it does on any discounted debt.Actual Return on Plan Assets - Increase in pension funds from interest, dividends, and realized and unrealized changes in the fair market value of the plan assets.Amortization of Unrecognized Prior Service Cost - The cost of providing retroactive benefits is allocated to pension expense in the future, specifically to the remaining service-years of the affected employees.Gain or Loss - Volatility in pension expense can be caused by sudden and large changes in the market value of plan assets and by changes in the projected benefit obligation. Two items comprise the gain or loss:difference between the actual return and the expected return on plan assets and,amortization of the unrecognized net gain or loss from previous periods