Name:
Intro to Business
CRN:
T/Th 9:35 – 11:00 a.m.
Date (The date the assignment is turned in)
Chapter 16 Outline
Getting to the Bottom Line:
Basic Accounting Concepts
1. Discuss how both managers and external stakeholders use financial
information. Managers use financial information by accounting. They use this
financial information to plan and control a company’s operation and make
business decisions. They also use this information to help evaluate the
business. External stakeholders to see where there invested money is being
used and if it is a good investment. It is also used for both to make good
decisions.
Accounting – measuring, interpreting, and communicating financial
information to support internal and external decision making
Financial accounting – preparing financial information for users outside the
organization
Management accounting – preparing data for use by managers within the
organization
2. Describe what accountants do. Accountants design accounting systems,
prepare financial statements, analyze and interpret financial information, prepare
financial forecasts and budgets, and prepare tax returns. Some accounts
specialize in tax accounting, cost accounting, and financial analysis.
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Accountants may also help clients in the business process, future planning,
evaluate the product, analyze profitability, design and install new computer
systems, help in decision making, and several other areas.
Bookkeeping – recordkeeping; clerical aspect of accounting
Cost accounting – calculating the cost of creating and selling a company’s
goods and services
Tax accounting – area of accounting focusing on tax preparation and tax
planning
Financial analysis – evaluating a company’s performance and analyzing
the costs and benefits of a strategic action
Private accountants – in-house accountants employed by organizations
and businesses other than a public accounting firm
Controller – highest-ranking accountant in a company, responsible for
overseeing all accounting functions
Certified public accountants (CPAs) – professionally licensed accountants
who meet certain requirements for education and experience and who
pass a comprehensive examination
Certified management accountants (CMAs) – accountants who have
fulfilled the requirements for certification as specialists in management
accounting
Public accountants – professionals who provide accounting services to
other businesses and individuals for a fee
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Audit – formal evaluation of the fairness and reliability of a client’s financial
statements
External auditors – independent accounting firms that provide auditing
services for public companies
Generally accepted accounting principles (GAAP) – professionally
approved U.S. standards and practices used by accountants in the
preparation of financial statements
Internal auditors – employees who analyze and evaluate a company’s
operations and data to determine their accuracy
3. Summarize the impact of the Sarbanes-Oxley Act. The impact of the
Sarbanes-Oxley Act is in play now partly due to the reason of Enron and World
Com. This Act works on trying to keep this right and fair in the companies so that
there is no cheating. With this Act some of the rules that are enforced are the
requirements that the corporate lawyers report financial wrongdoings, they
require the CEO’s and CFO’s to now sign the statements of their financial
statements so they cannot say they were unaware of the happening, companies
also have to document and test the internal financial controls and processes.
This Act also requires that audit committees on the BOD have at least one
financial expert and that the not be company executives. This act was brought
about to help repair the investor confidence after the disappointment with the
companies such as Enron and World Com.
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Sarbanes-Oakley - comprehensive legislation, passed in the wake of
Enron and other scandals, designed to improve integrity and
accountability of financial information
Quality of earnings – general term for the degree of confidence that
investors should have in the profits reported by public corporations
4. State the basic accounting equation and explain the purpose of doubleentry bookkeeping and the matching principle. The basic accounting
equation is Assets = liabilities + owner’s equity. The purpose of double-entry
bookkeeping is to keep the books or the accounting equation equal or in balance.
This system keeps the assets and the liabilities balanced. Matching principles is
matching expenses and revenues in accounting period. They try to do this to
show a picture of the profitability. My thinking is they want things to equal out
because it would look really good it you have a period of revenues but at the
same time if you then had a period you would have to pay your expenses that
period would not look so good. So you try to equal them out.
Assets – any things of value owned or leased by a business
Liabilities – claims against a firm’s assets by creditors
Owner’s equity – portion of a company’s assets that belongs to the owners
after obligations to all creditors have been met
Accounting equation – basic accounting equation that assets equal
liabilities plus owner’s equity
5. Differentiate between cash basis and accrual basis accounting. The cash
basis and accrual basis accounting are different because with cash the company
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records the revenue when the cash is received and with accrual the company
records the revenue when the sale is made.
Double-entry bookkeeping - way of recording financial transactions that
requires two entries for every transaction so that the accounting equation
is always kept in balance
Matching principle – fundamental principle requiring that expenses
incurred in producing revenue be deducted from the revenues they
generate during an accounting period
Accrual basis – accounting method in which revenue is recorded when a
sale is made and expense is recorded when it is incurred
Cash basis – accounting method in which revenue is recorded when
payment is received and expense is recorded when cash is paid
Deprecation – accounting procedure for systematically spreading the cost
of a tangible asset over its estimated useful life
Close the books – the act of transferring net revenue and expense
account balances to retained earnings for the period
6. Explain the purpose of the balance sheet and identify its three main
sections. The purpose of the balance sheet is to show a snapshot of the
company’s financial position on a particular date. The balance sheets three main
sections are the assets of the company on one side and on the other the
liabilities and owner’s equity.
Balance sheet – statement of a firm’s financial position on a particular
date; also known as a statement of financial position
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Calendar year – twelve-month accounting period that begins on January 1
and ends on December 31
Fiscal year – any 12 consecutive months used as an accounting period
Current assets – cash and items that can be turned into cash within one
year
Fixed assets – assets retained for long-term use, such as land, buildings,
machinery, and equipment; also referred to as property, plant, and
equipment
Current liabilities – obligations that must be met within a year
Long term liabilities – obligations that fall due more than a year from the
date of the balance sheet
Lease – legal agreement that obligates the user of an asset to make
payments to the owner of the asset in exchange for using it
7. Explain the purpose of the income statement and statement of cash flow.
The purpose of the income statement is like a movie instead of snapshot and if
shows the profit performance over a specific period of time. Usually a year
instead of a certain date. The statement of cash flow show how much money the
company generated and what it was used for and where it went.
Retained earnings – the portion of shareholders’ equity earned by the
company but not distributed to its owners in the form of dividends
Income statement – financial record of a company’s revenues, expenses,
and profits over a given period of time
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Revenues – amount earned from sales of goods or services and inflow
from miscellaneous sources such as interest, rent, and royalties
Expenses – costs created in the process of generating revenues
Net income- profit earned or loss incurred by a firm. Determined by
subtracting expenses from revenues; casually referred to as the bottom
line
Cost of goods sold – cost of producing or acquiring a company’s products
for sale during a given period
Gross profit – amount remaining when the cost of goods sold is deducted
from net sales; also known as gross margin
Operating expenses – all costs of operation that are not included under
cost of goods sold
Selling expenses – all the operating expenses associated with marketing
goods or services
General expenses – operating expenses, such as office and
administrative expenses, not directly associated with creating or marketing
a good or service
EBITDA – earnings before interest, taxes, depreciation, and amortization;
a simpler and more direct measure if income
Statement of cash flows – statement of a firm’s cash receipts and cash
payments that presents information on its sources and uses of cash
Ratio analysis – use of quantitative measures to evaluate a firm’s financial
performance
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Profitability ratios – ratios that measure the overall financial performance
of a firm
Return on sales – ratio between net income after taxed and net sales
Return on investment (ROI) – ratio between net income after taxes and
total owner’s equity; also known as return on equity
Earnings per share – measure of profitability calculated by dividing net
income after taxed by the average number of shares of common stock
outstanding
Liquidity ratios – ratios that measure a firm’s ability to meet its short term
obligations when they are due
Working capital – current assets minus current liabilities
Current ration – measure of a firm’s short term liquidity, calculated by
adding cash, marketable securities, and receivables, then dividing that
sum by current liabilities
Quick ratio – measure of a firm’s short term liquidity, calculated by adding
cash, marketable securities, and receivables, the dividing that sum by
current liabilities
Activity ratio – ratios that measure the effectiveness of the firm’s use of its
resources
Inventory turnover ratios – measure of the time a company takes to turn its
inventory into sales, calculated by dividing cost of goods sold by the
average value of inventory for a period
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Accounts receivable turnover ratio – measure of time a company takes to
turn its accounts receivable into cash, calculated by dividing sales by the
average value of accounts receivable for a period
Debt ratios – ratios that measure a firm’s reliance on debt financing of its
operations (sometimes called leverage ratios)
Debt to equity ratio – measure of the extent to which a business is
financed by debt as opposed to invested capital, calculated by dividing the
company’s total liabilities by owner’s equity
Debt to total assets ratio – measure of a firm’s ability to carry long term
debt, calculated by dividing total liabilities by total assets.
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