Accounting Principles

Thirteenth Edition
Weygandt Kimmel Kieso

Chapter 1

Accounting in Action
Prepared by
Coby Harmon
University of California, Santa Barbara
Westmont College
 Chapter 1

Accounting in Action
Chapter Outline
Learning Objectives
LO 1 Identify the activities and users associated with
accounting.
LO 2 Explain the building blocks of accounting: ethics,
principles, and assumptions.
LO 3 State the accounting equation, and define its
components.
LO 4 Analyze the effects of business transactions on the
accounting equation.
LO 5 Describe the four financial statements and how they
are prepared.
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 Accounting Activities and Users
Accounting consists of three activities
1. Identification – Select economic events
(transactions)
2. Recording - Record, classify, and summarize
3. Communication
• Prepare accounting reports
• Analyze and interpret for users

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 Who Uses Accounting Data
Internal Users
• Finance - Is cash sufficient to pay dividends to SAP
shareholders?
• Marketing – What price should Nokia charge for a cell
phone to maximize the company's net income?
• Human Resources – Can Toyota afford to give its
employees pay raises this year?
• Management - Which PepsiCo product line is the most
profitable? Should any product lines be eliminated?
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 Who Uses Accounting Data
External Users
• Investors
 Is Lenovo earning satisfactory income?
 How does Disney compare in size and
profitability with Time Warner?
• Creditors – Will Singapore Airlines be able to pay its
debts as they come due?

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 The Building Blocks of Accounting
Ethics in Financial Reporting
• Financial scandals include: Satyam Computer Services (IND),
Toshiba (JPN), Pou Sheng International (HKG), Siwei (CHN),
and other companies
• Effective financial reporting depends on sound ethical
behavior

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 Ethics in Financial Reporting
Ethics are the standards of conduct by which one's
actions are judged as:
a. right or wrong
b. honest or dishonest
c. fair or not fair
d. all of these options

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 Generally Accepted Accounting
Principles
Standards that are generally accepted and universally
practiced. These standards indicate how to report
economic events.
Standard-setting bodies:
• Financial Accounting Standards Board (FASB)
• International Accounting Standards Board (IASB)

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 Measurement Principles
Historical Cost Principle (or cost principle)
• Record assets at their cost.
Fair Value Principle
• Assets and liabilities should be reported at fair value
(the price received to sell an asset or settle a liability)
Selection of which principle to follow generally relates to
trade-offs between relevance and faithful
representation.

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 Assumptions
Monetary Unit Assumption
• Include in accounting records only transaction data
that can be expressed in terms of money
Economic Entity Assumption
• Activities of entity be kept separate and distinct from
activities of its owner and all other entities
 Proprietorship
Forms of Business
 Partnership Ownership
 Corporation
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 Forms of Business Ownership
Proprietorship Partnership Corporation
• Owned by one • Owned by two or • Ownership divided
person more persons into shares
• Owner is often • Often retail and • Separate legal
manager/operator service-type entity organized
• Owner receives any businesses under state
profits, suffers any • Generally corporation law
losses, and is unlimited personal • Limited liability
personally liable for liability
all debts • Partnership
agreement

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 Assumptions
Combining the activities of Kellogg and General Mills
would violate the
a. cost principle
b. economic entity assumption
c. monetary unit assumption
d. ethics principle.

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 Assumptions
A business organized as a separate legal entity under
jurisdiction corporation law having ownership divided
into shares of stock is a
a. proprietorship
b. partnership
c. corporation
d. sole proprietorship

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 The Accounting Equation

Assets = Liabilities + Owner's Equity

Basic Accounting Equation

• Provides underlying framework for recording and
summarizing economic events
• Assets are claimed by either creditors or owners
• If a business is liquidated, claims of creditors must be
paid before ownership claims

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 The Accounting Equation

Assets = Liabilities + Owner's Equity

Assets
• Resources a business owns
• Provide future services or benefits
• Cash, Supplies, Equipment, etc.

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 The Accounting Equation

Assets = Liabilities + Owner's Equity

Liabilities
• Claims against assets (debts and obligations)
• Creditors (party to whom money is owed)
• Accounts Payable, Notes Payable, Salaries and Wages
Payable, etc.

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 The Accounting Equation

Assets = Liabilities + Owner's Equity

Owner’s Equity
• Ownership claim on total assets
• Referred to as residual equity
• Investment by owners and revenues (+)
• Drawings and expenses (-)

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 The Accounting Equation ILLUSTRATION 1.6
Expanded accounting equation

Equation Assets = Liabilities + Owner's Equity

Expanded Owner's Owner's
Assets = Liabilities + - + Revenues - Expenses
Equation Capital Drawings

Increase in Owner’s Equity

• Investment by Owner. Assets the owner puts into
the business
• Revenues. Increases in assets or decreases in
liabilities resulting from sale of goods or performance
of services in normal course of business
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 The Accounting Equation ILLUSTRATION 1.6
Expanded accounting equation

Equation Assets = Liabilities + Owner's Equity

Expanded Owner's Owner's
Assets = Liabilities + - + Revenues - Expenses
Equation Capital Drawings

Decrease in Owner’s Equity

• Drawings. A withdraw of cash or other assets for
personal use
• Expenses. Cost of assets consumed or services used
in the process of earning revenue

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 Analyzing Business Transactions
Transactions are a business’s economic events recorded by
accountants.
• May be external or internal
• Not all activities represent transactions
• Have a dual effect on the accounting equation

Analyze
Trial Adjusting
business Journalize Post
Balance Entries
transactions

Adjusted
Financial Closing Post-Closing
Trial
Balance Statements Entries Trial Balance

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 Analyzing Business Transactions
Illustration: Are the following events recorded in the
accounting records?
Discuss product ILLUSTRATION 1.7

design with
Transaction
identification process

Purchase potential
Event
computer customer Pay rent

Criterion Is the financial position (assets, liabilities, or

owner’s equity) of the company changed?

Record/
Don’t Record Yes No Yes

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 Summary of Transactions
1. Each transaction analyzed in terms of effect on:
a. Three components of basic accounting
equation
• Assets
• Liabilities
• Owner’s equity
b. Specific types of items, such as Cash
2. Two sides of equation must always be equal

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 The Four Financial Statements
Companies prepare four financial statements:

Owner's Statement Statement

Income
Equity of Financial of Cash
Statement
Statement Position Flows

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 Financial Statements
Net income will result during a time period when:
a. assets exceed liabilities
b. assets exceed revenues
c. expenses exceed revenues
d. revenues exceed expenses

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 Financial
Income Statement
Revenues €4,700

Statements Service revenue

Expenses
Salaries and wages expense 900
Softbyte Rent expense 600
statements for Advertising expense 250
Utilities expense 200
the Month Ended Total expenses 1,950
September 30, Net income €2,750
2020
Owner’s Equity Statement
Owner’s capital, September 1 € 0
Add: Investments 15,000
Add: Net income 2,750
ILLUSTRATION 1.9
Financial statements and
Less: Drawings 1,300
their interrelationships Owner’s capital, September 30 $16,450

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 Owner’s Equity Statement
Financial Owner’s capital, September 1 € 0

Statements
Add: Investments 15,000
Add: Net income 2,750
Less: Drawings 1,300
Softbyte Owner’s capital, September 30 €16,450
statements for Statement of Financial Position
the Month Ended Assets
September 30, Cash € 8,050
Accounts receivable 1,400
2020 Supplies 1,600
Equipment 7,000
Total assets €18,050
Owner’s Equity and Liabilities
ILLUSTRATION 1.9
Accounts payable € 1,600
Financial statements and
their interrelationships
Owner’s capital 16,450
Total owner’s equity and liabilities €18,050
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 Statement of Financial Position (partial)

Financial
Assets
Cash € 8,050

Statements
Accounts receivable 1,400
Supplies 1,600
Statement of Cash Flows
Softbyte Cash flows from operating activities
Cash receipts from revenues 3,300
statements for Cash payments from expenses (1,950)
the Month Ended Net cash from operating activities 1,350
September 30, Cash flows from investing activities
Purchase of equipment (7,000)
2020 Cash flows from financing activities
Investments by owner 15,000
Drawings by owner (1,300)
Net cash from financing activities 13,700
ILLUSTRATION 1.9
Net increase in cash 8,050
Financial statements and Cash at beginning of period 0
their interrelationships
Cash at end of period € 8,050
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 Income Statement
• Reports revenues and expenses for a specific period
of time
• Lists revenues first, followed by expenses
• Shows net income (or net loss)
• Does not include investment and withdrawal
transactions between owner and business in
measuring net income

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 Owner’s Equity Statement
• Reports changes in owner’s equity for a specific
period of time
• Time period is the same as that covered by the
income statement

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 Statement of Financial Position
• Reports assets, liabilities, and owner's equity at a
specific date
• Lists assets at top, followed by liabilities and owner’s
equity
• Total assets must equal total owner’s equity and
liabilities
• Snapshot of company’s financial condition at a
specific moment in time (usually month-end or year-
end)

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 Statement of Cash Flows
• Information on cash receipts and payments for a
specific period of time
• Answers the following:
 Where did cash come from?
 What was cash used for?
 What was change in cash balance?

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 Financial Statements
Which of the following financial statements is prepared
as of a specific date?
a. Statement of financial position
b. Income statement
c. Owner's equity statement
d. Statement of cash flows

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 Appendix 1A
Career Opportunities in Accounting
Public Accounting Private Accounting
Careers in auditing, taxation, Careers in industry working in
and management consulting cost accounting, budgeting,
serving the general public. accounting information
systems, and taxation.

Governmental Accounting Forensic Accounting

Careers with tax authorities, Uses accounting, auditing,
law enforcement agencies, and investigative skills to
company regulators, public conduct investigations into
colleges and universities, and theft and fraud.
in local governments.
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Copyright
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Copyright ©2019 John Wiley & Son, Inc. 35