Chapter 1: Accounting in action
What is accounting? The building blocks of accounting
The basic accounting equation
Using the accounting equation
Financial Statements
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What is accounting?
Identify
Record
Relevant to business
Bookkeeping
Communicat e
Financial Statement s
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What is accounting?
Three Activities
Illustration 1-1 Accounting process
The accounting process includes the bookkeeping function.
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What is accounting?
Internal User
Users of accounting data
Various Department: Finance, Marketing, Human resource, Top management
External User
Investors, Creditors, Tax authorities, Customers, Labor Unions, SEC
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Building blocks of accounting
Ethics in Financial reporting - Sarbanes-Oxley Act 2002 Generally Accepted Accounting Principles - Standard setting bodies - Measurement Principles
Assumptions - Forms of business ownerships
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Building blocks of accounting
Ethics In Financial Reporting
Standards of conduct by which ones actions are judged as right or wrong, honest or dishonest, fair or not fair, are Ethics.
Recent financial scandals include: Enron, WorldCom, HealthSouth, AIG, and others. Congress passed Sarbanes-Oxley Act of 2002.
Effective financial reporting depends on sound ethical behavior.
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Building blocks of accounting
Sarbanes-Oxley Act 2002 Reduce unethical behavior
Top management has to certify accuracy of financial information Severe penalties for fraud Increased independence of outside auditors
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Building blocks of accounting
Generally Accepted Accounting Principles (GAAP) - A set of rules and practices, having substantial authoritative support, that the accounting profession recognizes as a general guide for financial reporting purposes. Standard-setting bodies determine these guidelines:
Securities and Exchange Commission (SEC)
Financial Accounting Standards Board (FASB)
International Accounting Standards Board (IASB)
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Building blocks of accounting
Measurement Principles
Cost Principle Or historical cost principle, dictates that
companies record assets at their cost.
Fair Value Principle Indicates that assets and liabilities
should be reported at fair value (the price received to sell an asset or settle a liability).
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Building blocks of accounting
Assumptions
Monetary Unit include in the accounting records only
transaction data that can be expressed in terms of money.
Economic Entity requires that activities of the entity be
kept separate and distinct from the activities of its owner and all other economic entities.
Proprietorship. Partnership. Corporation.
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Forms of Business Ownership
Building blocks of accounting
Forms of business ownership
Proprietorship
Partnership
Corporation
Generally owned by one person. Often small service-type businesses Owner receives any profits, suffers any losses, and is personally liable for all debts.
Owned by two or more persons. Often retail and service-type businesses Generally unlimited personal liability Partnership agreement
Ownership divided into shares of stock Separate legal entity organized under state corporation law Limited liability
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Basic accounting Equation
Liabilities:Outsiders claims against assets; borrowings; payables
Owners Equity:Owners claim on assets
Asset:Resources a business owns that have capacity to provide future services or benefits
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Basic accounting equation
Owners Equity increases with
Investment (Capital): When owner puts in cash in the business Revenues: Anything coming into the business due to business activity. Drawings: When owners withdraw cash from business Expenses: Costs of assets and services consumed or used
Liabilities
Investment Drawings + Revenues Expenses
Owners Equity decreases with
Assets
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Using the accounting equation
Transactions are a businesss economic events recorded by accountants.
May be external or internal. Not all activities represent transactions. Each transaction has a dual effect on the accounting equation.
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Using the accounting Transaction (1): Ray Neal decides to open a computer programming equation
service which he names Softbyte. On September 1, 2012, Ray Neal invests $15,000 cash in the business.
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Using the accounting equation Transaction (2): Purchase of Equipment for Cash. Softbyte purchases
computer equipment for $7,000 cash.
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Using the accounting Transaction (3): Softbyte purchases for $1,600 from Acme Supply equation
Company computer paper and other supplies expected to last several months. The purchase is made on account.
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Using the accounting equation Transaction (4): Softbyte receives $1,200 cash from customers for
programming services it has provided.
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Using the accounting equation Transaction (5): Softbyte receives a bill for $250 from the Daily News
for advertising but postpones payment until a later date.
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Using the accounting equation Transaction (6): Softbyte provides $3,500 of programming services
for customers. The company receives cash of $1,500 from customers, and it bills the balance of $2,000 on account.
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Using the accounting equation Transaction (7): Softbyte pays the following expenses in cash for
September: store rent $600, salaries of employees $900, and utilities $200.
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Using the accounting equation pays its $250 Daily News bill in cash. Transaction (8): Softbyte
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Using the accounting equation Transaction (9): Softbyte receives $600 in cash from customers who
had been billed for services [in Transaction (6)].
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Using the accounting equation Transaction (10): Ray Neal withdraws $1,300 in cash from the
business for his personal use.
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Using the accounting equation
Illustration 1-8 Tabular summary of Softbyte transactions
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Using the accounting equation
Illustration 1-8 Tabular summary of Softbyte transactions
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Using the accounting equation
Illustration 1-8 Tabular summary of Softbyte transactions
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Financial Statements
Companies prepare four financial statements :
Income Statement
Owners Equity Statement
Balance Sheet
Statement of Cash Flows
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Financial Statements
Income Statement: Presents the revenues and expenses and resulting net income or net loss for a specific period of time. Owners Equity Statement: Summarizes the changes in the owners equity for a specific period of time.
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Financial Statements
Balance Sheet: Reports the assets, liabilities, and owners equity at a specific date. It ensures that the accounting equation is maintained.
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Financial Statements
Statement of Cash Flows: Summarizes information about the cash inflows (receipts) and outflows (payments) for a specific period of time
Answers the following:
1. Where did cash come from?
2. What was cash used for? 3. What was the change in the cash balance?
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