Accounting for Non-Accountants Dr. Joyce S. Wendam Lecturer I - Basic Accounting: Concepts, Techniques and Conventions Definition of Accounting Accounting is the art of recording, classifying and summarizing in a significant manner and in terms of money, transactions and events which are, in part at least, of a financial character and interpreting the results thereof. Functions of Accounting Functions of accounting: 1. Recording of data 2. Classifying of data 3. Summarizing of data 4. Interpreting the results Major users of accounting information 1. owners of the business 2. management of the business 3. banks or creditors of the business 4. the government or its agencies 5. prospective investors 6. consumers 7. employees of the business 8. the general public 2 – The Elements of Accounting The Accounting Elements Assets Owner’s Equity Liabilities Revenue Expenses Assets Assets are items of worth owned by the business organization in conducting its operations. Examples: cash, receivables, stock, land Types of Assets 1. Current assets – those assets which are readily converted into cash within a twelve-month period or within the normal operating cycle of a business. As a guide – non-monetary assets that are convertible to cash within a year or the normal operating cycle of a business are categorized as current assets. 2. Non-current assets - those which are not readily convertible into cash within a twelvemonth period or within the normal operating cycle of a business and, thus, it has a longterm nature. Also known as long-term assets. These assets are mostly not intended to be sold by the business entity. Ex. - land, building, machinery, motor vehicles, equipment and furniture. Liabilities Amounts owed by the business entity to outside parties other than its owner and as such these are seen as “debts” and obligations of the business. Examples – accounts payable, notes payable, loans, salaries payable a. Current Liabilities Current Liabilities - debts and obligations which should be paid within a twelve-month period or within the normal operating cycle of a business. Examples are creditors, accounts payable, salaries payable. b. Non-current Liabilities Non-current Liabilities – debts and obligations which will be paid over more than a twelve-month period and, thus, it has a long-term nature. Also known as long-term liabilities. Examples – mortgage loan or long-term notes payable Owner’s Equity Also known as owner’s contribution, investment, proprietorship, net worth or capital to the business. Outstanding claim of the owners in the assets of a business after satisfying the claims of the creditors. Revenue & Expenses Revenue - amount made or earned by the business entity as a result of its operations. Expenses – expenditures associated with earning revenue. These are generally utilized in the period in which they incurred. Profit/Loss calculation The primary objective of most business organizations is to make earnings or profits. To calculate a profit or loss, we only need to subtract expenses from revenues. If revenue is greater than expenses, a profit is made and consequently, a loss is made when revenue is less than expenses. In Accounting, a loss is generally shown with parentheses around it ( a negative numerical figure). Accounting Equation The Fundamental Accounting Equation: Assets = Liabilities + Owners’ Equity The accounting equation may also be expressed in two other forms: (1) OWNER’S EQUITY = ASSETS – LIABILITIES (2) LIABILITIES = ASSETS – OWNER’S EQUITY Expanded Accounting Equation A = L + OE (C + R – E – D) Where: A = assets L = liabilities OE = Owner’s Equity C = Capital R = Revenue E = Expenses D = Drawings DOUBLE-ENTRY BOOKKEEPING Phases of Accounting Recording Phase Classifying Phase Summarizing Phase Interpreting Phase Recording Phase – refers to the procedure of methodically and chronologically documenting business transactions in the appropriate accounting books. Classifying Phase refers to the procedure of sorting accounting entries and grouping them into same type such as asset accounts, liability accounts, owner’s equity accounts, revenue accounts and expense accounts. Summarizing Phase – refers to the procedure of abridging or summing up of accounting entries that were classified in the classifying phase into more useful financial statements. Interpreting Phase – refers to the procedure of analyzing the financial statements done in the summarizing phase to provide answers to major users of financial information. Principles of Double-Entry Bookkeeping System (1) Each business transaction involves a worth received and a worth given away; (2) The balance of the accounting equation should always be conserved, that is, the accounting equation should still be balance after each business transaction. Debit and Credit Entry Double-entry bookkeeping system always records a transaction using two entries: Debit entry deals with the worth received (things-of-value received) by the business entity. Credit entry deals with the worth given away (things-of-value given away) by the business entity. For you to understand further the double-entry bookkeeping system, study the following business transactions: 1. The business purchase a motor vehicle for P500,000 from David Car Sales paid in cash. worth received: motor vehicle worth P500,000 worth given away: cash of P500,000 What is the accounting entry? Debit entry – transportation equipment worth P500,000 Credit entry – cash-on-hand of P500,000 Rules of Debit and Credit Rule 1: An asset is increased by a debit entry. Rule 2: An asset is decreased by a credit entry. Rule 3: A liability is increased by a credit entry. Rule 4: A liability is decreased by a debit entry. Rule 5: An owner’s equity is increased by a credit entry. Rule 6: An owner’s equity is decreased by a debit entry. Rule 7: A revenue is increased by a credit entry. Rule 8: A revenue is decreased by a debit entry. Rule 9: An expense is increased by a debit entry. Rule 10: An expense is decreased by a credit entry. 3. FINANCIAL ACCOUNTING REPORTS Financial Statements Summarized reports of accounting transactions Two-fold purpose: to communicate to users: - the effect of operating activities during a specified period of time; and, - the business’ financial position at the end of the period Types of financial statements: Income Statement Balance Sheet Statement of Cash Flow Balance Sheet Reports the financial position of a business at a specific point in time Often called the “statement of financial position” Equation: Assets = Liabilities + Owners’ Equity Balance Sheet Assets – economic resources that are expected to benefit future activities Equities – claims against, or interests in, the assets Liabilities – entity’s economic obligations to non-owners Owners’ equity – excess of the assets over the liabilities For a corporation, the owners’ equity is called the stockholders’ equity. Pro Forma Balance Sheet XYZ Co. Balance Sheet December 31, 20xx ASSETS Current Assets Cash Marketable Securities Accounts Receivable Merchandise Inventory Other Current Assets Total Current Assets Fixed Assets Land Building xxx xxx xxx xxx xxx . xxx xxx xxx Furniture & Fixture Office Equipment Total Less: Accumulated Depreciation Total Fixed Assets TOTAL ASSETS xxx xxx . xxx LIABILITIES & STOCKHOLDERS’ EQUITY LIABILITIES Current Liabilities: Notes and Accounts Payable Taxes Payable Other Current Liabilities Total Current Liabilities Long-term Liabilities Total Liabilities xxx . xxx . xxx . xxx xxx xxx . xxx xxx . xxx . STOCKHOLDERS’ EQUITY Capital Stock Retained Earnings Total Stockholders’ Equity TOTAL LIABILITIES & STOCKHOLDERS’ EQUITY xxx xxx . xxx . xxx . Income Statement Measures the operating performance of the corporation by matching its accomplishments (revenue from customers, which is usually called sales) and its efforts (cost of goods sold and expenses). Measures performance for a span of time Also known as Profit and Loss Statement Revenues - inflows of assets either from the sale of goods or the performance of services Expenses - outflows or other uses of assets to produce revenues over expenses Net income (sometimes referred to as earnings or profit) is the excess of revenues over expenses, including tax expense ABC Corporation Income Statements For Year Ended December 31, 2008 (in thousands of pesos) Sales Less: Cost of Sales Gross Income Less: Operating Expenses Selling Administrative Total Operating Expenses Income from Operations Less: Interest Expense Income before tax Less: Income Tax Net Income 3,280 2,120 1,160 350 420 770 390 30 360 126 234 ==== Statement of Cash Flows Prepared by analyzing changes in balance sheet amounts and the data in the income and retained earnings statements. The financing (i.e. obtaining financial resources) and investing (i.e. using financial resources) activities of a company are of considerable interest to users of financial information because those activities change the financial position of the business C. Pro forma Cash Flow Statement XYZ Enterprise Cash Flow Projections For the Period Ending _________ Opening Balance Cash Receipts Collection of Receivables Cash Sales Sale of Temporary Investments Sale of Equity Short-Term Borrowing Long-Term Borrowing Investments Total Receipts xxx xxx xxx xxx xxx xxx xxx xxx xxx . xxx Cash Disbursements Payments for Raw Materials Purchases Payments for Labor Manufacturing Overhead and Expenses Selling Expenses General and Administrative Expense Payment for Fixed Assets Interest Payments Loan Repayments Payments on Real Estate Mortgage Payment on Income Taxes Other Taxes and Assessments Total Disbursements End Balance xxx xxx xxx xxx xxx xxx xxx xxx xxx xxx xxx . (xxx) . xxx ======= MANAGEMENT ACCOUNTING II - INTRODUCTION Management Accounting Management Accounting – the application of appropriate techniques and concepts in processing the historical and projected economic data of an entity to assist management in establishing a plan for reasonable economic objectives and in the making of rational decisions with a view towards achieving these objectives. Management Accounting defies attempts at comprehensive, concise definition; it changes constantly to adapt to technological changes, changes in manager’s needs, and new approaches to other functional areas of business – marketing, production, finance, organizational behavior, and corporate strategy. An indispensable part of the system that provides information to managers – the people whose decisions and actions determine the success or failure of an organization. Definition of Management Accounting Management Accounting includes the methods and concepts necessary for effective planning, for choosing alternative business actions and for control through the valuation and interpretation of performance (The American Accounting Association). The essential aim of management accountant is to assist management in decision making and control (Brown and Howard). Financial Accounting and Managerial Accounting Major Differences: 1. They serve different audiences - Financial Accounting – serves persons outside the firm such as creditors, customers, government units and investors. - Managerial - insiders 2. Differ in source and nature - Financial Accounting reports are developed from the basic accounting system , which captures data about completed transactions. Financial Accounting and Managerial Accounting - Managerial - reports incorporate information that is not found in the financial accounting system; such information might relate to expected future transactions (such as budgeted sales and costs) or alternatives to past transactions (such as showing what income would have been if we had sold more units at a lower price) 3. - As to purpose Financial accounting reports are general purpose. - Managerial accounting reports are specifically designed for a particular user or a particular decision. Financial Accounting and Managerial Accounting 4. Financial accounting reports concentrate on the results of past decisions. Managerial accounting reports often concentrate on what is likely to happen in the future. 5. Managerial accounting has no external restrictions such as the generally accepted accounting principles (GAAP) while financial accounting has to adhere to GAAP. Managerial Functions and their Relationship to Accounting 1. planning – setting goals and developing strategies and tactics to achieve them 2. decision making - use of analytical techniques 3. control - determining whether goals are being met, and if not, what can be done. 4. performance evaluation - how well operations are being controlled Objectives of Management Accounting Main objective – to supply the required data to perform the internal management functions. The ff. are some of the functions: - Collection of data – for preparation of plans - Evaluation of plans – ascertaining the defects if any and brought to the notice of the managers immediately. - Observing the performance – comparing the actual with the standards - Observing the reports – analyzing the uses of various types of statements in the organization and suggesting for their improvement. - Coordination among persons – showing organizational relaitons among people - Financial analysis - Timely decisions - Peaceful atmosphere - Coordination - Submission of reports – for performance evaluation Role of Managerial Accounting within an Organization Boeing – “ Less transactional and more decision-support type of work. More analytical, more . . . option analysis” US West – “ From a historical role to a much more collaborative business partner, doing a lot more analysis, saying here’s what we need to do in the business. A business partner. It’s how do we run the business and what are the financial impacts of doing that.” Caterpillar - “Accountants evolve to become more of a team player and being involved in major projects and being looked to as a business advisor or consultant to help leverage our expertise on profitability of certain products or outsourcing decisions and then helping the team develop strategy and focus the team all the way through recommendation and implementation.” Source: Counting More , Counting Less: Transformation in the Mangament Accosunting Profession, Institute of Managmeent Accosutning, 1999. Activities of Managerial Accountants Assist in the design of the organization’s information system Ensuring that the system performs adequately Periodically reporting information to interested managers Undertaking special analyses III - Profit Planning Cost-Volume-Profit Analysis – a systematic examination of the relationships among costs, activity levels or volume, and profit. Cost – refers to amount of resources given up in exchange for some goods or services Classification of cost 1. fixed – remain the same in total over a wide range of volume 2. variable – change in total in direct proportion to changes in volume Profit Planning Example: Exeter Company Selling price of backpacks Cost of backpacks from manufacturers Variable cost to pack and ship Sales commission at 5% of P20.00 Total Variable Cost Fixed Costs (rent, salaries, insurance, etc.) P20.00 P10.00 1.00 1.00 P12.00 P40,000 Contribution Margin Contribution Margin – the difference between selling price per unit and variable cost per unit Contribution margin percentage – per-unit contribution margin divided by selling price CM/unit CM percentage = ___________ Selling Price a) In our example, how much is the contribution margin per unit and what is the contribution margin percentage? b) What is the total cost? Total costs = fixed costs + (variable cost per unit x unit volume) (Assume units sold, 6000 units) c) Determine profit: Profit = (selling price x unit sales) - total variable costs – total fixed costs