Chapter 1: Accounting in Business – Study Notes
1. What is Accounting? (LO1)
Definition: An information system that identifies, measures, records, and
communicates economic activities of an organization.
Objective: Helps people make better decisions.
Recordkeeping (Bookkeeping):
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Recording financial transactions (manually or electronically).
Focuses on completeness, neutrality, and accuracy.
Accounting goes beyond recordkeeping to analyze and interpret data.
2. Forms of Business Organization (LO2)
Sole Proprietorship:
One owner.
o Separate accounting entity but not a separate legal entity.
o Unlimited liability, limited life, owner taxed on profits.
Partnership:
Two or more owners.
o Unlimited liability, limited life, owners taxed on profits.
Corporation:
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One or more owners (shareholders).
Separate legal entity, limited liability, unlimited life.
Corporation taxed on profits (double taxation possible).
3. Users of Accounting Information (LO3)
Internal Users: Managers/employees (e.g., questions about costs, profitability,
revenue needs).
External Users: Investors, creditors, regulators (use general-purpose financial
statements).
GAAP (Generally Accepted Accounting Principles): Ensures consistency and
usefulness of financial statements.
4. Ethics and Social Responsibility (LO4)
Importance: Builds trust, promotes loyalty, ensures reliable information.
CPA Ethical Obligations:
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Maintain professional competence.
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Confidentiality, integrity, objectivity in financial disclosure.
5. Accounting Principles (LO5)
GAAP Framework:
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Business Entity Principle: Business accounts separate from owner’s.
Going Concern Assumption: Assumes business will operate into the
future.
Revenue Recognition Principle: Record revenue when earned (not
necessarily when cash is received).
Measurement:
Historical cost (common).
Current value methods (fair value, current cost).
IFRS (International Financial Reporting Standards): Global standards for public
companies.
ASPE (Accounting Standards for Private Enterprises): Simplified standards for
private companies.
6. Financial Statements (LO6)
Four Major Statements:
1. Income Statement: Revenues, expenses, profit/loss (over a period).
2. Statement of Changes in Equity: Tracks owner’s equity (investments,
profits, withdrawals).
3. Balance Sheet: Assets, liabilities, equity (at a point in time).
4. Statement of Cash Flows: Cash inflows/outflows (operating, investing,
financing activities).
Linkage:
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Income Statement → Statement of Changes in Equity → Balance Sheet.
7. Accounting Equation (LO7)
Formula: Assets = Liabilities + Equity
Assets: Resources owned (e.g., cash, equipment).
o Liabilities: Debts/obligations.
o Equity: Owner’s claim (capital, retained earnings).
Transaction Analysis:
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Identify affected accounts (e.g., cash, supplies, accounts payable).
Determine increases/decreases (e.g., purchasing supplies on credit
increases both assets and liabilities).
8. Preparing Financial Statements (LO8)
Steps:
1. Income Statement: Summarize revenues and expenses.
2. Statement of Changes in Equity: Adjust for owner investments, profits,
withdrawals.
3. Balance Sheet: List assets, liabilities, and updated equity.
4. Cash Flow Statement: Track cash movements.
Common Transaction Examples
1. Owner Investment (Business Receives Cash)
Transaction: Hailey invests $10,000 cash into her business.
Analysis:
Cash (Asset) ↑ +$10,000
o Owner’s Capital (Equity) ↑ +$10,000
Effect on Equation:
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Assets (+10,000)=Liabilities(10,000)=Liabilities(0) + Equity
(+$10,000)
2. Purchase Supplies for Cash
Transaction: Business buys $2,500 of supplies, paying cash.
Analysis:
Supplies (Asset) ↑ +$2,500
o Cash (Asset) ↓ –$2,500
Effect on Equation:
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Assets (+2,500–2,500–2,500) = Liabilities (0)+Equity(0)+Equity(0)
Total assets remain unchanged (one asset increases, another decreases).
3. Purchase Equipment on Credit
Transaction: Business buys $6,000 equipment, signing a promissory note.
Analysis:
Equipment (Asset) ↑ +$6,000
o Notes Payable (Liability) ↑ +$6,000
Effect on Equation:
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Assets (+6,000)=Liabilities(+6,000)=Liabilities(+6,000) + Equity
($0)
4. Revenue Earned in Cash
Transaction: Business earns $2,200 from services, receiving cash.
Analysis:
Cash (Asset) ↑ +$2,200
o Revenue (Equity) ↑ +$2,200 (increases owner’s claim).
Effect on Equation:
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Assets (+2,200)=Liabilities(2,200)=Liabilities(0) + Equity
(+$2,200)
5. Payment of Rent Expense
Transaction: Business pays $1,000 rent in cash.
Analysis:
Cash (Asset) ↓ –$1,000
o Rent Expense (Equity) ↓ –$1,000 (expenses reduce equity).
Effect on Equation:
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Assets (–1,000)=Liabilities(1,000)=Liabilities(0) + Equity (–$1,000)
6. Revenue Earned on Credit (Accounts Receivable)
Transaction: Business provides $1,900 in services on credit.
Analysis:
Accounts Receivable (Asset) ↑ +$1,900
o Revenue (Equity) ↑ +$1,900
Effect on Equation:
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Assets (+1,900)=Liabilities(1,900)=Liabilities(0) + Equity
(+$1,900)
7. Payment of Accounts Payable
Transaction: Business pays $900 owed to a supplier.
Analysis:
Cash (Asset) ↓ –$900
o Accounts Payable (Liability) ↓ –$900
Effect on Equation:
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Assets (–900)=Liabilities(–900)=Liabilities(–900) + Equity ($0)
8. Owner Withdraws Cash (Drawings)
Transaction: Owner takes $600 cash for personal use.
Analysis:
Cash (Asset) ↓ –$600
o Owner’s Withdrawals (Equity) ↓ –$600
Effect on Equation:
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Assets (–600)=Liabilities(600)=Liabilities(0) + Equity (–$600)
0
