Accounting and the
Business Environment
Chapter 1
Objective 1
Use accounting vocabulary
Accounting...
is an information system that...
measures business activities,
processes information, and...
communicates financial information.
Accounting...
is called the language of business.
Users of Accounting Information
External users
make decisions
about the entity.
Internal users
make decisions
for the entity.
Fields of Accounting
Financial Accounting
Management Accounting
The Authority Underlying Accounti
Public Sector
(SEC)
Private Sector
(AICPA) (IMA)
Private Sector
(FASB)
GAAP
Standards of Professional
Conduct
AICPA’s Code of
Professional
Conduct
Standards of
Ethical
Conduct of the
Institute of
Management
Accountants
Types of Business Organizations
Proprietorships
Partnerships
Corporations
Proprietorships
 What are some advantages?
– total undivided authority
– no restrictions on type of business – must
be legal
 What are some disadvantages?
– unlimited liability
– limitation on size – fund raising power
Partnerships
 What are some advantages?
better credit standing – possibly
– more brain power, but consultation with
partners required
 What are some disadvantages?
– unlimited personal liability for general
partners
– need for written partnership agreement
Corporations
 What are some advantages?
– separate legal existence
– limited liability of stockholders
– transferability of ownership relatively easy
 What are some disadvantages?
– taxes – possible double taxation
– extensive governmental regulation
Objective 2
Apply Accounting
Concepts and Principles
Generally Accepted
Accounting Principles
 What is the primary objective of financial
reporting?
To provide information useful
for making investment and
lending decisions
The Entity Concept Example
 Assume that John decides to open up a gas
station and coffee shop.
 The gas station made $250,000 in profits,
while the coffee shop lost $50,000.
The Entity Concept Example
 How much money did John make?
 At a first glance, we would assume that
John made $200,000.
 However, by applying the entity concept we
realize that the gas station made $250,000
while the coffee shop lost $50,000.
The Reliability (Objectivity)
Principle
Information must
be reasonably
accurate.
Information must
be free from bias.
Information must
report what
actually
happened.
Individuals would
arrive at similar
conclusions using
same data.
The Cost Principle
Assets and services
acquired
should be recorded
at their actual cost.
The Going Concern Concept
The entity will continue
to operate in the future.
The Stable-Monetary-Unit Concept
The dollar’s purchasing
power is relatively
stable.
Objective 3
Use the Accounting Equation
The Accounting Equation
Assets
Economic
Resources
=
Liabilities + Owner’s Equity
Claims to
Economic
Resources
Assets
 What is an asset?
 It is something a company owns which has
–
–
–
–
future economic value.
land
building
equipment
goodwill
Liability
 What is a liability?
 It is something a company owes.
– money
– service – legal retainers
– product – magazines
Owner’s Equity
 What is owner’s equity?
 It is what’s left of the assets after liabilities
have been deducted.
– the same as net assets
– the owner’s claim on the entity’s assets
Transactions that Affect
Owner’s Equity
OWNER’S
EQUITY
INCREASES
OWNER’S EQUITY
DECREASES
Owner Withdrawals
from the Business
Owner Investments
in the Business
Owner’s Equity
Revenues
Expenses
Revenues
 What are revenues?
 They are amounts received or to be
–
–
–
–
received from customers for sales of
products or services.
sales
performance of services
rent
interest
Expenses
 What are expenses?
 They are amounts that have been paid or
–
–
–
–
will be paid later for costs that have been
incurred to earn revenue.
salaries and wages
utilities
supplies used
advertising
Objective 4
Analyze Business Transactions
Accounting for Business
Transactions
 What is a transaction?
 It is any event that both affects the financial
position of the business and can be reliably
recorded.
Accounting for Business
Transactions
1 Gay Gillen invests $30,000 to begin Gay
Gillen eTravel.
2 Gillen purchases an office location, paying
$20,000 in cash.
3 She buys office supplies, agreeing to pay
$500 in 30 days.
4 She earns and collects $5,500 revenues.
Accounting for Business
Transactions
5 Gillen performs services, and the client
agrees to pay $3,000 within one month.
6 During the month, she pays $3,300 for
expenses incurred.
7 Gillen pays $300 to the store from which
she purchased $500 worth of supplies.
 What is the effect of these transactions on
the accounting equation?
Accounting for Business
Transactions
Assets
1) Cash
2) Cash
Land
3) Supplies
4) Cash
5) Receivable
6) Cash
7) Cash
Totals
+ $30,000
– 20,000
+ 20,000
+
500
+ 5,500
+ 3,000
– 3,300
–
300
+ $35,400
Owner’s
= Liabilities + Equity
+ $30,000
+ 500
+
+
–
– 300
+ 200
5,500
3,000
3,300
+ $35,200
Accounting for Business
Transactions
 Notice that the equation always stays in
balance.
 Each transaction affects at least two
accounts, sometimes more.
 Some transactions affect only one side of
the equation; some affect both sides.
Accounting for Business
Transactions
 Other transactions that took place were as
follows:
 The business collected $1,000 from the
client.
 She sold some land at cost for $9,000.
 She withdrew $2,000 from the business.
Objective 5
Prepare Financial Statements
Financial Statements...
– are the final
product of the
accounting process.
– tell how the
business is performing
and where it stands.
Financial Statements
– income statement
– statement of owner’s equity or retained
earnings
– balance sheet
– statement of cash flows
Objective 6
Evaluate Business Performance
Relationships Among the Statements:
Income Statement
Revenue:
Fees earned
Expenses:
Salary expense
Utilities and telephone expense
Equipment rental expense
Office rent expense
Net income
$8,500
$1,200
400
600
1,100
3,300
$5,200
Relationships Among the Statements:
Statement of Owner’s Equity
G. Gillen, capital, April 1, 20xx
Contribution of capital
Net income
Cash distributions
G. Gillen, capital, April 30, 20xx
$
0
30,000
$ 5,200
– 2,000
$33,200
Relationships Among the Statements:
Balance Sheet
Assets
Cash
Accounts receivable
Supplies
Land
Total assets
$19,900
2,000
500
11,000
$ 33,400
Liabilities
Accounts payable
Owner’s equity,
G. Gillen, capital
Total liabilities and
owner’s equity
$
200
33,200
$33,400
Relationships Among the Statements:
Statement Of Cash Flows
Cash flows from operating activities:
Cash receipts from services rendered
Cash payments:
Supplies
$ 300
Operating expenses
3,300
Net cash flows from
Operating activities
Cash flows from investing activities
Purchase and sale of land
$6,500
3,600
$2,900
($11,000)
Relationships Among the Statements:
Statement Of Cash Flows
Cash Flows from Financing Activities:
Investment by Owner
Withdrawals
Net Cash Flows from
Financing Activities
Cash at Beginning of Year
Cash at End of the Year
$30,000
2,000
$28,000
0
$19,900
End of Chapter 1