FINANCIAL ACCOUNTING

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FINANCIAL ACCOUNTING

• Robert Libby
• Patricia A. Libby
• Daniel G. Short
• George Kanaan
• Maureen Gowing

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Chapter 1
Financial Statements and Business Decisions
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The Objectives of Financial Accounting

• Financial statements are the primary means of
  communicating financial information to parties
  outside the business organization.

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Business Background

• Business owners (called investors or
  shareholders) look for two sources of possible
  gain

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Business Background

• Creditors lend money to a company for a specific
  length of time and gain by charging interest on
  the money loaned.

Mels Diner
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Understanding Business Operations

• Manufacturers either make the parts needed to
  produce its products or buy the parts from
  suppliers.

Manufacturer
Product
Customer
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Understanding Business Operations

• All businesses should have an accounting system
  that . . .

Collects and processes financial
information about an organization.
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Understanding Business Operations
Accounting System
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Information Conveyed in Financial Statements

• The four basic financial statements . . .

Statement of Retained Earnings
Cash Flow Statement
Income Statement
Balance Sheet
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Information Conveyed in Financial Statements

• Most companies prepare financial statements at
  the end of the month, the end of the quarter
  (called quarterly reports) and the end of the
  year (called annual reports).

2003
X
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Lets look at MAXIDRIVE CORP.s financial
statements.
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1. Name of entity (the separate-entity
assumption) 2. Title of statement 3. Specific
date (financial snapshot at a specific
point in time) 4. Unit measure (thousands of
dollars)
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The Balance Sheet

• Body of the Statement
• Assets
• Economic resources controlled by the entity as a
  result of past transactions from which future
  economic benefits may be obtained.
• Liabilities
• Debts or obligations of the entity that result
  from past transactions.
• Shareholders Equity
• Amount of financing provided by owners of the
  corporation and from earnings.

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The Balance Sheet

• Basic Accounting Equation

Assets Liabilities Shareholders
Equity
Economic Sources of financing . .
. resources Liabilities from creditors Equity
from shareholders.

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Assets are listed by their ease of conversion
into cash.
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Use on the first item in a group and on the
group total.



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1. Name of entity 2. Title of statement 3.
Specific date (Unlike the balance sheet, this
statement covers a specified period of time.) 4.
Unit measure (in thousands of dollars)
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The income statement is divided into three major
captions.

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Revenues are earnings from the sale of goods or
services.
Revenue is recognized in the period in
which goods and services are sold, not
necessarily the period in which cash is received.
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The Income Statement

• Revenues

Earnings from the sale of goods or services.
When will the revenue from this transaction be
recognized?
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The Income Statement

• Revenues

Earnings from the sale of goods or services.
When will the revenue from this transaction be
recognized?
1,000 revenue recognized in May
May 2003
June 2003
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Expenses are the dollar amount of resources
used up by the entity to earn revenues during a
period.
An expense is recognized in the period in
which goods and services are used, not
necessarily the period in which cash is paid.
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The Income Statement

• Expenses

The dollar amount of resources used up by the
entity to earn revenues during a period.
When will the expense for this transaction be
recognized?
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The Income Statement

• Expenses

The dollar amount of resources used up by the
entity to earn revenues during a period.
When will the expense for this transaction be
recognized?
When will the expense for this transaction be
recognized?
Advertising expense recognized in June.
May 2003
June 2003
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When revenues exceed expenses, we report net
income.
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When expenses exceed revenues, we report net loss.
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Statement of Retained Earnings
Income of the corporation
Retained by the corporation
Dividends

Shareholders
Retained Earnings
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1. Name of entity 2. Title of statement 3.
Specific date (like the income statement, this
statement covers a specified period of time.) 4.
Unit measure (in thousands of dollars)
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Cash Flow Statement
Because revenues reported do not always
equal cash collected. . .
. . . and expenses reported do not always
equal cash paid . . .
Income is usually not equal to the change in cash
for the period.
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1. Name of entity 2. Title of statement 3.
Specific date (like the income statement and
statement of retained earnings, this
statement covers a specified period of time.) 4.
Unit measure (in thousands of dollars)
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Cash flows directly related to earning income are
shown in the operating section.
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Cash flows related to the acquisition or sale of
productive assets are shown in the investing
section.
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Cash flows from or to investors or creditors are
shown in the financing section.
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The statement ends with a reconciliation of Cash.
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Notes

• Notes provide supplemental information about the
  financial condition of a company.
• Three types . . .
• Describe accounting rules applied.
• Present additional detail about an item on the
  financial statements.
• Provide additional information about an item not
  on the financial statements.

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Price/Earnings Ratio
This ratio is one method for estimating the value
of a company.
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Responsibilities for the Accounting Communication
Process

• Effective communication means that the
  recipient understands what the sender intends to
  convey.

Decision makers need to understand accounting
measurement rules.
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Generally Accepted Accounting Principles (GAAP)
Securities Act of 1933 Securities and Exchange
Act of 1934
The Securities and Exchange Commission (SEC) has
been given broad powers to determine measurement
rules for financial statements in the United
States.
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Generally Accepted Accounting Principles (GAAP)
The Ontario Securities Commission (OSC) has been
given broad powers to determine measurement
rules for financial statements in Canada.
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Generally Accepted Accounting Principles (GAAP)
The OSC has worked closely with the accounting
profession to work out the detailed rules that
have become known as GAAP.
Currently, the Accounting Standards Board (AcSB)
is recognized as the body to formulate GAAP in
Canada.
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Generally Accepted Accounting Principles (GAAP)
Companies are interested in GAAP because methods
of reporting can have the following economic
consequences . . .

• Affect the selling price of shares.
• Affect the amount of bonuses received by
  managers and other employees.
• Cause a loss of competitive advantage.

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Management Responsibility and the Demand for
Auditing

• To ensure the accuracy of the companys records
• Management maintains a system of controls.
• Management hires an outside independent auditor.
• The board of directors reviews these two
  safeguards.

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Independent Auditors
Overall, I believe these financial statements
are fair.

• Auditors express an opinion as to the fairness of
  the financial statement presentation.
• Independent auditors have responsibilities that
  extend to the general public.

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Independent Auditors

• An audit involves . . .
• Examining the financial reports to ensure
  compliance with GAAP.
• Examining the underlying transactions
  incorporated into the financial statements.
• Expressing an opinion as to the fairness of
  presentation of financial information.

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Accounting Designations

• Chartered Accountant CA
• Certified General Accountant CGA
• Certified Management Accountant CMA
• Certified Public Accountant CPA
• ( in USA only)

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Ethics, Reputation, and Legal Liability

• In Canada all Accounting Institutes require
  that all members adhere to a professional code of
  ethics.

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Ethics, Reputation, and Legal Liability
The reputation for honesty and competence is the
most important asset of an accountant.
Like physicians, all accountants have liability
for malpractice.
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End of Chapter 1