Fundamental Accounting Principles Twenty Third Edition Chapter 1 Accounting in Business Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-1 Learning Objectives (1 of 2) CONCEPTUAL C1 Explain the purpose and importance of accounting. C2 Identify users and uses of, and opportunities in, accounting. C3 Explain why ethics are crucial to accounting. C4 Explain generally accepted accounting principles and define and apply several accounting principles. C5 Appendix 1B Identify and describe the three major activities of organizations. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-2 Learning Objectives (2 of 2) ANALYTICAL A1 Define and interpret the accounting equation and each of its components. A2 Compute and interpret return on assets. A3 Appendix 1A Explain the relation between return and risk. PROCEDURAL P1 Analyze business transactions using the accounting equation. P2 Identify and prepare basic financial statements and explain how they interrelate. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-3 Learning Objective C1: Explain the purpose and importance of accounting. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-4 Importance of Accounting (1 of 2) Learning Objective C1: Explain the Purpose and Importance of Accounting. • Identifying – Select transactions and events For example, the sale by Apple of an iPhone. • Recording – Input, measure, and log Keep a chronological log of transactions. • Communicating – Prepare, analyze, and interpret Prepare reports such as financial statements. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-5 Importance of Accounting (2 of 2) Learning Objective C1: Explain the Purpose and Importance of Accounting. Accounting is an information and measurement system that identifies, records, and communicates information about an organization’s business activities. Exhibit 1.1 Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-6 3-6 Learning Objective C2: Identify users and uses of, and opportunities in, accounting. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-7 Users of Financial Information Learning Objective C2: Identify users and uses of, and opportunities in, accounting. Accounting is called the language of business because all organizations set up an accounting information system to communicate data to help people make better decisions. Accounting serves many users who can be divided into two groups: external users and internal users. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-8 Exhibit 1.2 Users of Financial Information (1 of 3) Learning Objective C2: Identify users and uses of, and opportunities in, accounting. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-9 3-9 Exhibit 1.2 Users of Financial Information (2 of 3) Learning Objective C2: Identify users and uses of, and opportunities in, accounting. External Users • Lenders • Shareholders • Governments • Consumer groups • External auditors • Customers Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-10 Exhibit 1.2 Users of Financial Information (3 of 3) Learning Objective C2: Identify users and uses of, and opportunities in, accounting. Internal Users • Executives • Managers • Internal auditors • Sales staff • Budget analysts • Controllers Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-11 Exhibit 1.3 Opportunities in Accounting (1 of 5) Learning Objective C2: Identify users and uses of, and opportunities in, accounting. Financial • Preparation • Analysis • Auditing • Regulatory • Consulting • Planning • Criminal investigation Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-12 Exhibit 1.3 Opportunities in Accounting (2 of 5) Learning Objective C2: Identify users and uses of, and opportunities in, accounting. Managerial • General accounting • Cost accounting • Budgeting • Internal auditing • Consulting • Controller • Treasurer • Strategy Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-13 Exhibit 1.3 Opportunities in Accounting (3 of 5) Learning Objective C2: Identify users and uses of, and opportunities in, accounting. Taxation • Preparation • Planning • Regulatory • Investigations • Consulting • Enforcement • Legal services • Estate plans Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-14 Exhibit 1.3 Opportunities in Accounting (4 of 5) Learning Objective C2: Identify users and uses of, and opportunities in, accounting. Accounting-related • Lenders • Consultants • Analysts • Traders • Directors • Underwriters • Planners • Appraisers • FBI investigators Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-15 Exhibit 1.3 Opportunities in Accounting (5 of 5) Learning Objective C2: Identify users and uses of, and opportunities in, accounting. Accounting-related • Market researchers • Systems designers • Merger services • Business valuation • Forensic accounting • Litigation support • Entrepreneurs Accounting information is in all aspects of our lives. When we earn money, pay taxes, invest savings, budget earnings, and plan for the future, we use accounting. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-16 NEED-TO-KNOW 1-1 (1 of 2) Learning Objective C1: Explain the Purpose and Importance of Accounting. Learning Objective C2: Identify users and uses of, and opportunities in, accounting. Identify the following users of accounting information as either an (a) external, or (b) internal user. Regulator a) External user CEO b) Internal user Shareholder a) External user Controller b) Internal user Executive Employee b) Internal user External Auditor a) External user Production Manager b) Internal user Nonexecutive Employee a) External user Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-17 3-17 NEED-TO-KNOW 1-1 (2 of 2) Learning Objective C1: Explain the Purpose and Importance of Accounting. Learning Objective C2: Identify users and uses of, and opportunities in, accounting. • External users of accounting information are NOT directly involved in running the organization. • Internal users of accounting information ARE directly involved in managing and operating an organization. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-18 Learning Objective C3: Explain why ethics are crucial to accounting. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-19 Ethics – A Key Concept Learning Objective C3: Explain why ethics are crucial to accounting. The goal of accounting is to provide useful information for decisions. For information to be useful, it must be trusted. This demands ethics in accounting. Ethics are beliefs that distinguish right from wrong. They are accepted standards of good and bad behavior. Exhibit 1.6 Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-20 3-20 Fraud Triangle (1 of 2) Learning Objective C3: Explain why ethics are crucial to accounting. Three factors must exist for a person to commit fraud: opportunity, pressure, and rationalization. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-21 3-21 Fraud Triangle (2 of 2) Learning Objective C3: Explain why ethics are crucial to accounting. • Opportunity: Envision a way to commit fraud with a low perceived risk of getting caught • Rationalization: Fails to see the criminal nature of the fraud or justifies the action • Financial Pressure: Must have some pressure to commit fraud, like unpaid bills Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-22 Sarbanes–Oxley (SOX) (1 of 2) Learning Objective C3: Explain why ethics are crucial to accounting. • Congress passed the Sarbanes–Oxley Act to help curb financial abuses at companies that issue their stock to the public. SOX requires that these public companies apply both accounting oversight and stringent internal controls. The desired results include more transparency, accountability, and truthfulness in reporting transactions. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-23 Sarbanes–Oxley (SOX) (2 of 2) Learning Objective C3: Explain why ethics are crucial to accounting. Company Alleged Accounting Abuses Tesco, Plc Inflated revenues and income, and deferred expenses WorldCom Understated expenses to inflate income and hid debt AQL Time Warner Inflated revenues and income Fannie Mae Inflated income Xerox Inflated income Bristol-Myers Squibb Inflated revenues and income Tyco Hid debt and CEO evaded taxes Global Crossing Inflated revenues and income Nortel Networks Understated expenses to inflate income Enron Inflated income, hid debt, and bribed officials Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-24 3-24 Dodd-Frank Wall Street Reform and Consumer Protection Act Learning Objective C3: Explain why ethics are crucial to accounting. This act was designed to: 1. promote accountability and transparency in the financial system, 2. put an end to the notion of “too big to fail,” 3. protect the taxpayer by ending bailouts, and 4. protect consumers from abusive financial services. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-25 Learning Objective C4: Explain generally accepted accounting principles and define and apply several accounting principles. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-26 Generally Accepted Accounting Principles (GAAP) Learning Objective C4: Explain generally accepted accounting principles and define and apply several accounting principles. Financial accounting is governed by concepts and rules known as generally accepted accounting principles (GAAP). GAAP aims to make information relevant, reliable, and comparable. • Relevant information affects decisions of users. • Reliable information is trusted by users. • Comparable information is helpful in contrasting organizations. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-27 International Standards (1 of 2) Learning Objective C4: Explain generally accepted accounting principles and define and apply several accounting principles. In today’s global economy, there is increased demand by external users for comparability in accounting reports. This demand often arises when companies wish to raise money from lenders and investors in different countries. • International Accounting Standards Board (IASB) – An independent group (consisting of individuals from many countries), issues International Financial Reporting Standards (IFRS) • International Financial Reporting Standards (IFRS) – Identify preferred accounting practices Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-28 International Standards (2 of 2) Learning Objective C4: Explain generally accepted accounting principles and define and apply several accounting principles. Differences between U.S. GAAP and IFRS are decreasing as the FASB and IASB pursue a convergence process aimed to achieve a single set of accounting standards for global use. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-29 Conceptual Framework (1 of 2) Learning Objective C4: Explain generally accepted accounting principles and define and apply several accounting principles. The FASB and IASB are attempting to converge and enhance the conceptual framework that guides standard setting. The framework consists broadly of the following: • Objectives—to provide information useful to investors, creditors, and others. • Qualitative Characteristics—to require information that is relevant, reliable, and comparable. • Elements—to define items that financial statements can contain. • Recognition and Measurement—to set criteria that an item must meet for it to be recognized as an element; and how to measure that element. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-30 Conceptual Framework (2 of 2) Learning Objective C4: Explain generally accepted accounting principles and define and apply several accounting principles. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-31 3-31 Principles and Assumptions of Accounting Learning Objective C4: Explain generally accepted accounting principles and define and apply several accounting principles. • General principles are the basic assumptions, concepts, and guidelines for preparing financial statements. General principles stem from longused accounting practices. • Specific principles are detailed rules used in reporting business transactions and events. Specific principles arise more often from the rulings of authoritative groups. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-32 Exhibit 1.7 Principles and Assumptions of Accounting Learning Objective C4: Explain generally accepted accounting principles and define and apply several accounting principles. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-33 3-33 Accounting Principles (1 of 2) Learning Objective C4: Explain generally accepted accounting principles and define and apply several accounting principles. • Measurement Principle (or Cost Principle) – Accounting information is based on actual cost. Actual cost is considered objective. • Revenue Recognition Principle 1. Recognize revenue when it is earned. 2. Proceeds need not be in cash. 3. Measure revenue by cash received plus cash value of items received. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-34 Accounting Principles (2 of 2) Learning Objective C4: Explain generally accepted accounting principles and define and apply several accounting principles. • Expense Recognition Principle (or Matching Principle) – A company must record its expenses incurred to generate the revenue reported. • Full Disclosure Principle – A company is required to report the details behind financial statements that would impact users’ decisions. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-35 Accounting Assumptions Learning Objective C4: Explain generally accepted accounting principles and define and apply several accounting principles. • Going-Concern Assumption – Reflects assumption that the business will continue operating instead of being closed or sold. • Monetary Unit Assumption – Express transactions and events in monetary, or money, units. • Business Entity Assumption – A business is accounted for separately from other business entities, including its owner. • Time Period Assumption – Presumes that the life of a company can be divided into time periods, such as months and years. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-36 Exhibit 1.8 Proprietorship, Partnership, and Corporation Learning Objective C4: Explain generally accepted accounting principles and define and apply several accounting principles. Here are some of the major attributes of proprietorships, partnerships, and corporations: Attribute Present Proprietorship Partnership Corporation One owner allowed……… Yes no yes Business taxed…………… no no yes Limited liability………….. no* no* yes Business entity…………… yes yes yes Legal entity………………... no no yes Unlimited life………………. no no yes *Proprietorships and partnerships that are set up as LLCs provide limited liability. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-37 3-37 Accounting Constraints Learning Objective C4: Explain generally accepted accounting principles and define and apply several accounting principles. • Materiality – Only information that would influence the decisions of a reasonable person need be disclosed. • Cost-benefit – Only information with benefits of disclosure greater than their cost need be disclosed. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-38 NEED-TO-KNOW 1-2 Part 1 (1 of 3) Learning Objective C3: Explain why ethics are crucial to accounting. Learning Objective C4: Explain generally accepted accounting principles and define and apply several accounting principles. Identify the following terms/phrases as either an accounting (a) principle, (b) assumption, or (c) constraint. Materiality Measurement Business entity Going concern Expense recognition Time period Full disclosure Revenue recognition Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-39 3-39 NEED-TO-KNOW 1-2 Part 1 (2 of 3) Learning Objective C3: Explain why ethics are crucial to accounting. Learning Objective C4: Explain generally accepted accounting principles and define and apply several accounting principles. Principles: Govern the amount and/or timing of information to be reported in financial statements. Measurement principle Also called the cost principle Cost is measured on a cash or equal-to-cash basis. Governs valuation of assets and liabilities on the balance sheet. Revenue recognition principle Governs the timing of revenues recognized on the income statement. Revenue is recognized when earned. Expense recognition principle Also called the matching principle Governs the timing of expenses reported on the income statement. Expenses are recognized in the same time period as the revenues they help generate. Full disclosure principle A company must report the details behind financial statements that would impact users' decisions. Disclosures are often in the footnotes to the financial statements. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-40 3-40 NEED-TO-KNOW 1-2 Part 1 (3 of 3) Learning Objective C3: Explain why ethics are crucial to accounting. Learning Objective C4: Explain generally accepted accounting principles and define and apply several accounting principles. Assumptions: Generally related to the financial statement headings. Going concern assumption Presumption that the business will continue operating instead of being closed or sold. Monetary unit assumption We can express transactions and events in monetary units. (i.e. Dollars, Pesos, Euros) Time period assumption Presumes that the life of a company can be divided into time periods, and that useful reports can be prepared for those periods. Business entity assumption A business is accounted for separately from other business entities, including its owner(s). Accounting constraints: Reasonableness of information to be reported. Materiality Only information that would influence the decisions of a reasonable person needs to be disclosed. Materiality is a function of the nature of the item and/or dollar amount. Benefits exceed cost The benefits of the information disclosed must be greater than the costs of providing the information. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-41 3-41 NEED-TO-KNOW 1-2 Part 1 SOLUTION Learning Objective C3: Explain why ethics are crucial to accounting. Learning Objective C4: Explain generally accepted accounting principles and define and apply several accounting principles. • Identify the following terms/phrases as either an accounting (a) principle, (b) assumption, or (c) constraint. Materiality c) Constraint Measurement a) Principle Business Entity b) Assumption Going Concern b) Assumption Expense Recognition a) Principle Time Period b) Assumption Full Disclosure a) Principle Revenue Recognition a) Principle Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-42 3-42 NEED-TO-KNOW 1-2 Part 2 Learning Objective C3: Explain why ethics are crucial to accounting. Learning Objective C4: Explain generally accepted accounting principles and define and apply several accounting principles. • Complete the following table with either a yes or a no regarding the attributes of a partnership and a corporation. Attribute Present Partnership Corporation Business taxed no yes Limited liability no yes Legal entity no yes Unlimited life no yes Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-43 3-43 Learning Objective A1: Define and interpret the accounting equation and each of its components. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-44 Transaction Analysis and the Accounting Equation Learning Objective A1: Define and interpret the accounting equation and each of its components. The Accounting Equation Assets = Liabilities + Equity Expanded Accounting Equation: Equity Assets = Liabilities + Owner, Capital – Owner,Withdrawals +Revenues – Expenses Net Income Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-45 NEED-TO-KNOW 1-3 Learning Objective A1: Define and interpret the accounting equation and each of its components. • Use the accounting equation to compute the missing financial statement amounts. Assets= Liabilities+ Equity Bose $ 150 = $ 30 + $ 120 Vogue $ 400 = $ 100 + $ 300 • Use the expanded accounting equation to compute the missing financial statement amounts. Assets= Liabilities + Equity +Owner, Capital – Owner, Withdrawals + Revenues Expenses Tesla $200 $80 $120 $100 $0 $60 ($40) YouTube $400 $160 $240 $220 ($10) $120 ($90) Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-46 3-46 Learning Objective P1: Analyze business transactions using the accounting equation. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-47 Transaction 1 Learning Objective P1: Analyze business transactions using the accounting equation. Chas Taylor invests $30,000 cash to start a company. The accounts involved are: 1) Cash (asset) ↑ 2) C. Taylor, Capital (equity) ↑ Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-48 Accounting Equation: Transaction 1 Learning Objective P1: Analyze business transactions using the accounting equation. • Chas Taylor invests $30,000 cash to start the business, Fast Forward. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-49 3-49 Transaction 2 Learning Objective P1: Analyze business transactions using the accounting equation. Company purchased supplies paying $2,500 cash. The accounts involved are: 1) Cash (asset) ↓ 2) Supplies (asset) ↑ Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-50 Accounting Equation: Transaction 2 Learning Objective P1: Analyze business transactions using the accounting equation. • Company purchased supplies paying $2,500 cash. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-51 3-51 Transaction 3 Learning Objective P1: Analyze business transactions using the accounting equation. Purchased equipment for $26,000 cash. The accounts involved are: 1) Cash (asset) ↓ 2) Equipment (asset) ↑ Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-52 Accounting Equation: Transaction 3 Learning Objective P1: Analyze business transactions using the accounting equation. • Purchased equipment for $26,000 cash. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-53 3-53 Transaction 4 Learning Objective P1: Analyze business transactions using the accounting equation. Purchased supplies of $7,100 on credit. The accounts involved are: 1) Supplies (asset) ↑ 2) Accounts Payable (liability) ↑ Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-54 Accounting Equation: Transaction 4 Learning Objective P1: Analyze business transactions using the accounting equation. • Purchased Supplies of $7,100 on credit. • Accounting Equation still remains in balance!! Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-55 3-55 Transaction Analysis Learning Objective P1: Analyze business transactions using the accounting equation. Now, let’s look at transactions involving revenues, expenses and withdrawals. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-56 Transaction 5 Learning Objective 01-P1: Analyze business transactions using the accounting equation. Provided consulting services to a customer and received $4,200 cash right away. The accounts involved are: 1) Cash (asset) ↑ 2) Revenues (equity) ↑ Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-57 Accounting Equation: Transaction 5 Learning Objective P1: Analyze business transactions using the accounting equation. • Provided consulting services to a customer and received $4,200 cash right away. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-58 3-58 Transactions 6 and 7 Learning Objective P1: Analyze business transactions using the accounting equation. Paid rent of $1,000 and salaries of $700 to employees. The accounts involved are: 1) Cash (asset) ↓ 2) Rent expense ↑ (equity) ↓ 3) Salaries expense ↑ (equity) ↓ • Remember that the balance in the Expense accounts actually increase. • But, total Equity decreases, because expenses reduce equity. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-59 Accounting Equation: Transactions 6 and 7 Learning Objective P1: Analyze business transactions using the accounting equation. • Paid rent of $1,000 and salaries of $700 to employees. • Remember that expenses decrease equity. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-60 3-60 Transaction 8 Learning Objective P1: Analyze business transactions using the accounting equation. Provided consulting services of $1,600 and rents facilities for $300 to a customer for credit. The accounts involved are: 1) Accounts receivable (asset) ↑ 2) Consulting Revenues (equity) ↑ 3) Rental Revenue (equity) ↑ Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-61 Accounting Equation: Transaction 8 Learning Objective P1: Analyze business transactions using the accounting equation. • Provided consulting services of $1,600 and rents facilities for $300 to a customer for credit. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-62 3-62 Transaction 9 Learning Objective P1: Analyze business transactions using the accounting equation. Client in transaction 8 pays $1,900 for consulting services from account receivable. The accounts involved are: 1) Cash (asset) ↑ 2) Accounts receivable (asset) ↓ Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-63 Accounting Equation: Transaction 9 Learning Objective P1: Analyze business transactions using the accounting equation. • Client in transaction 8 pays $1,900 for consulting services. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-64 3-64 Transaction 10 Learning Objective P1: Analyze business transactions using the accounting equation. FastForward pays $900 as partial payment for supplies purchased in transaction 4. The accounts involved are: 1) Cash (asset) ↓ 2) Accounts payable (liability) ↓ Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-65 Accounting Equation: Transaction 10 Learning Objective P1: Analyze business transactions using the accounting equation. • FastForward pays $900 as partial payment for supplies purchased in transaction 4. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-66 3-66 Transaction 11 Learning Objective P1: Analyze business transactions using the accounting equation. Withdrawal of Cash by Owner. The accounts involved are: 1) Cash (asset) ↓ 2) Withdrawals ↑ (equity) Remember that the Withdrawal account actually increases (just like our Expenses account . . . ) But, total Equity decreases because withdrawals cause equity to go down !! Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-67 Accounting Equation: Transaction 11 Learning Objective P1: Analyze business transactions using the accounting equation. • $200 cash is withdrawn by owner. Assets = Liabilities + Equity Accounts Payable $ 6,200 C.Taylor, C.Taylor, Capital Withdrawals Revenue Expenses $ 30,000 $ 4,200 (1,700) (200) $ 1,600 300 $ $ 30,000 $ Accounts Cash Receivable Supplies Equipment Bal. $ 5,000 0 $ 9,600 $ 26,000 (11) (200) $ 4,800 0 $ 9,600 $ 26,000 $ 40,400 = 6,200 (200) $ 6,100 $ (1,700) $ 40,400 Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-68 3-68 NEED-TO-KNOW 1-4 (1 of 2) Learning Objective P1: Analyze business transactions using the accounting equation. • Assume Tata began operations on January 1 and completed the following transactions during its first month of operations. Jan. 1 Jamsetji invested $4,000 cash in the Tata company Jan. 5 The company purchased $2,000 of equipment on credit. Jan. 14 The company provided $540 of services for a client on credit. Jan. 21 The company paid $250 cash for an employee’s salary • Arrange the following asset, liability, and equity titles in a table: Cash; Accounts Receivable; Equipment; Accounts Payable; J. Tata, Capital; J. Tata, Withdrawals; Revenues; and Expenses. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-69 3-69 NEED-TO-KNOW 1-4 (2 of 2) Learning Objective P1: Analyze business transactions using the accounting equation. Assets Cash Jan. 1 Accounts Receivable = Equipment Liabilitie s Accounts Payable $4,000 $2,000 Jan. 21 + J. Tata, Capital - J. Tata, Withdrawals + Revenues $2,000 $540 $540 ($250) $3,750 Expenses $4,000 Jan. 5 Jan. 14 + Equity ($250) $540 $2,000 Total Assets Total Liabilities Total Equity $2,000 $4,000 $0 $540 ($250) $6,290 2,000 $4,290 Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-70 3-70 Learning Objective P2: Identify and prepare basic financial statements and explain how they interrelate. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-71 Financial Statements Learning Objective P2: Identify and prepare basic financial statements and explain how they interrelate. The four financial statements and their purposes are: 1. Income statement — describes a company’s revenues and expenses along with the resulting net income or loss over a period of time due to earnings activities. 2. Statement of owner’s equity— explains changes in equity from net income (or loss) and from any owner investments and withdrawals over a period of time. 3. Balance sheet — describes a company’s financial position (types and amounts of assets, liabilities, and equity) at a point in time. 4. Statement of cash flows — identifies cash inflows (receipts) and cash outflows (payments) over a period of time. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-72 Exhibit 1.10 Financial Statements and Their Links (1 of 2) Learning Objective P2: Identify and prepare basic financial statements and explain how they interrelate. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-73 3-73 Exhibit 1.10 Financial Statements and Their Links (2 of 2) Learning Objective P2: Identify and prepare basic financial statements and explain how they interrelate. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-74 3-74 NEED-TO-KNOW 1-5 (1 of 2) Learning Objective P2: Identify and prepare basic financial statements and explain how they interrelate. Prepare the (a) income statement, (b) statement of owner’s equity, and (c) balance sheet, for Apple using the following condensed data from its fiscal year ended September 26, 2015 ($ in millions). Accounts payable $35,490 Investments and other assets Other liabilities 135,634 Land and equipment (net) 22,471 Cost of sales 140,089 Selling, general and other expenses 40,232 Accounts receivable 16,849 Net income 53,394 Cash 21,120 Owner, Capital, September 27, 2014 111,547 Withdrawals in fiscal year 2015 45,586 Revenues 233,715 $230,039 Owner, Capital, September 26, 2015 Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 119,355 1-75 3-75 NEED-TO-KNOW 1-5 (2 of 2) Learning Objective P2: Identify and prepare basic financial statements and explain how they interrelate. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-76 3-76 NEED-TO-KNOW (1 of 2) Learning Objective P2: Identify and prepare basic financial statements and explain how they interrelate. Accounts payable $35,490 Other liabilities 135,634 Cost of sales 140,089 Cash 21,120 Owner, Capital, September 26, 2014 111,547 Withdrawals in fiscal year 2015 45,586 Revenues 233,715 Investments and other assets $230,039 Land and equipment (net) 22,471 Selling, general and other expenses 40,232 Accounts receivable 16,849 Net income 53,394 Owner, Capital, September 26, 2015 119,355 Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-77 3-77 NEED-TO-KNOW (2 of 2) Learning Objective P2: Identify and prepare basic financial statements and explain how they interrelate. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-78 3-78 Sustainability and Accounting Learning Objective P2: Identify and prepare basic financial statements and explain how they interrelate. Sustainability Accounting Standards Board (SASB) • Nonprofit entity engaged in creating and disseminating sustainability accounting standards for companies. • Sustainability refers to environmental, social and governance. • Environmental aspects include programs to reduce pollution and support green activities. • Standards intended to complement financial accounting standards. • SASB created their own Conceptual Framework. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-79 Learning Objective A2: Compute and interpret return on assets. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-80 Return on Assets Learning Objective A2: Compute and interpret return on assets. Return on assets (ROA) is stated in ratio form as net income divided by the average total assets invested. Return on assets Net income Average total assets Return on Assets Fiscal Year Return on Assets Verizon Industry 2015 7.7% 4.8% 2014 4.7 4.1 2013 9.4 5.4 2012 4.6 3.3 2011 4.5 3.1 Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-81 3-81 Learning Objective A3 (Appendix 1A): Explain the relation between return and risk. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-82 Appendix 1A Return and Risk Analysis Learning Objective A3: Explain the relation between return and risk. Many different returns may be reported. • ROA • Interest return on savings accounts. • Interest return on corporate bonds. Risk is the uncertainty about the return we will earn. • The lower the risk, the lower our expected return. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-83 Exhibit 1A.1: Appendix 1A: Return and Risk Analysis Learning Objective A3: Explain the relation between return and risk. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-84 3-84 Learning Objective C5 (Appendix 1B): Identify and describe the three major activities of organizations. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-85 Appendix 1B Business Activities and the Accounting Equation (1 of 3) Learning Objective C5: Identify and describe the three major activities of organizations. Three major types of business activities: • Financing activities provide the means organizations use to pay for resources such as land, buildings, and equipment to carry out plans. – Owner financing—resources contributed by the owner along with any income the owner leaves in the organization. – Nonowner financing—resources contributed by creditors (lenders). – Financial management—the task of planning how to obtain these resources and to set the right mix between owner and creditor financing. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-86 Appendix 1B Business Activities and the Accounting Equation (2 of 3) Learning Objective C5: Identify and describe the three major activities of organizations. Three major types of business activities: • Investing activities are the acquiring and disposing of resources (assets) that an organization uses to acquire and sell its products or services. – Asset management—determining the amount and type of assets for operations. – Assets—invested amounts. – Liabilities—creditors’ claims. – Equity—owner’s claim. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-87 Appendix 1B Business Activities and the Accounting Equation (3 of 3) Learning Objective C5: Identify and describe the three major activities of organizations. Three major types of business activities: • Operating activities involve using resources to research, develop, purchase, produce, distribute, and market products and services. – Strategic management —the process of determining the right mix of operating activities for the type of organization, its plans, and its market. Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education. 1-88 Exhibit 1B.1: Appendix 1B Business Activities and the Accounting Equation Learning Objective C5: Identify and describe the three major activities of organizations. Activities of Organizations Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution Copyright © 201 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill without the prior written consent of McGraw-Hill Education. Education. 1-89 3-89