CHAPTER 8: ACCOUNTING
DECISION MAKING BY THE NUMBERS
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)

FINANCIAL STATEMENTS: THE MAIN OUTPUT OF
FINANCIAL ACCOUNTING

Financial accounting includes three basic financial
statements:

Balance Sheet




Income Statement




assets: value of the stuff the organization controls
liabilities: debt claims against the stuff
owners’ equity: owners’ claims against the stuff
revenues ($ coming in)
expenses ($ going out)
Statement of Cash Flows
Corporations with publicly held stock must publish annual
reports with all three statements
BALANCE SHEET: WHAT WE OWN AND HOW
WE GOT IT
Balance Sheet – summarizes a firm’s financial position at a
specific point in time.
Assets –
things of
value that
the firm owns
Liabilities –
indicates what
the firm owes to
non-owners
Owner’s
Equity –
the claims owners
have against
their firm’s
assets
Assets = Liabilities + Owner’s Equity
Stuff & claims against stuff
Stuff
• Car
$4,000
Claims against stuff
• Dave (owner) $3,000
• Becky (loan) $1,000
Stuff & claims against stuff
Stuff
• House
$140,000
Claims against stuff
• Bank (debt)
$115,000
• Dave (owner)
$ 25,000
Stuff & claims against stuff
Stuff
• Car
$4,000
Claims against stuff
• Dave (owner)
$3,000
• Becky (debt: 6 mo) $1,000
Stuff
• House
$140,000
Claims against stuff
• Bank (debt)
$115,000
• Dave (owner)
$ 25,000
Snap shot:
The Balance Sheet
Assets (stuff)
car
 house
 total

$
4,000
140,000
144,000
Liabilities and Owners Equity
short term liabilities (becky)
 long term liabilities (bank)
 equity (car and house)
 total

$ 1,000
115,000
28,000
144,000
SAMPLE BALANCE SHEET
Foundation & Accounting Numbers
Balance Sheet
Total
%
12/31/08
Assets
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%
$9,552
45.8%
$20,852
100.0%
Total Fixed Assets
Total Assets
Foundation & Accounting Numbers
Liabilities & Owner's Equity
Total
Accounts Payable
$2,855
13.7%
$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%
Current Debt
%
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
Revenue – Expenses = Net Income
SAMPLE INCOME STATEMENT
Foundation & Accounting Numbers
Income Statement
Total
Sales
%
$40,800
100.0
Direct Labor
$12,138
29.7
Direct Material
$20,240
49.6
Inventory Carry
$282
0.7
$32,660
80.0
$8,140
20.0
Variable Costs
Total Variable Cost
Contribution Margin
Period Costs
Depreciation
%
$960
2.4
$0
0.0
Promotions
$1,000
2.5
Sales
$1,000
2.5
$637
1.6
Total Period Costs
$3,597
8.8
Net Margin
$4,543
11.1
$0
0.0
$4,543
11.1
Short Term Interest
$0
0.0
Long Term Interest
$641
1.6
$1,365
3.3
$51
0.1
$2,485
6.1
SGA: R&D
Administration
Other
EBIT
Taxes
Profit Sharing
Net Profit
STATEMENT OF CASH FLOWS: SHOW
ME THE MONEY

Cash flowing into and out of the firm
Operations
 Investing
 Financing




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
SAMPLE STATEMENT OF CASH FLOWS
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)
BEYOND THE STATEMENTS
Horizontal Analysis – compares information in a firm’s
financial statement over a period of 2 years or more.
Vertical Analysis –
expresses items on the
balance sheet and income
statement as a
percentage of a key
value.
Ratio Analysis – compares
selected items by
computing percentages,
rates or proportions.
MANAGERIAL ACCOUNTING VS. FINANCIAL
ACCOUNTING