Chapter 3- Accounting and
Financial Statements
Pr. SAMLAL Zoubida
The Nature of Accounting
• The accounting system is a series of steps
performed to analyze, record, quantify,
accumulate, summarize, classify, report, and
interpret economic events and their effects on an
organization and to prepare the financial
statements.
Accounting as an Aid to
Decision Making
• Fundamental relationships in the decisionmaking process:
Event
Accountant’s
analysis &
recording
Financial
Statements
Users
Financial and Management
Accounting
• The major distinction between financial and
management accounting is the users of the
information.
– Financial accounting serves external users.
– Management accounting serves internal users,
such as top executives, management, and
administrators within organizations.
Financial and Management Accounting
The primary questions about an organization’s
success that decision makers want to know are:
1-What is the financial picture of the organization
-on a given day?
2- How well did the organization do during a
given period?
CHART OF ACCOUNTS
The Chart of Accounts is organized using
three different methods.
1. First: Accounting Types
2. Second: Order of Liquidity - the ease
of converting to cash without loss of
value
3. Third: Account Numbers
6
7 TYPES OF ACCOUNTS
1.
2.
3.
4.
Assets - Things you own
Liabilities - Things you owe
Equity - Owners Stake in Company
Revenue - Income through Sales of the Products of the
Business
5. Costs of Goods Sold - Costs to provide the service or to
manufacture or acquire the product the business sells
6. Expenses - Things that are paid for that are consumable and are
part of the cost of running a business
7. Other Revenue and Expenses - Revenue and Expenses that are
unusual cases and are not directly related to the business
product and are not usual costs of running a business.
7
ORDER OF LIQUIDITY
• The Chart of Accounts’ second method of organization is
Order of Liquidity. Liquidity refers to the expectation that the
item can be converted to cash at least close to its current
value within one year.
• Accounts are listed in descending order of liquidity within
their accounting types, with cash at the top of the list for
Assets.
•
The liquidity classification is so important that Assets and
Liabilities are divided into the Subtypes of Current and Long
Term/Fixed to group items of similar liquidity together.
8
ACCOUNT NUMBERS
• Assigning Account numbers starts by assigning a range of
numbers to each Accounting Type.
• The number of digits will be important in your software
system so when using ranges in the 1000’s there are 4 digits,
and the Account Numbers would range from 1000 to 9999.
9
ACCOUNT NUMBERS
• Assets: 1000’s
– Current Assets 1000 – 1499; Fixed Assets 1500 -1999
• Liabilities: 2000’s
– Current Liabilities 2000 – 2499; Long Term Liabilities 2500 2999
• Equity: 3000’s
• Revenue: 4000’s
• Costs of Goods Sold: 5000’s
• Expenses: 7000’s
• Other Revenue: 8000’s
• Other Expenses: 9000’s
10
Use of Funds (Debit) Accounting
Types
• Each Accounting Type under the “Funds/Use of Funds”
Category increases in value or balance with each debit (Use of
Funds) transaction entry and decreases in value or balance
with each credit (Source of Funds) transaction entry.
•
Use of Funds Accounts are sometimes referred to as Debit
Accounts.
11
Use of Funds (Debit) Accounting
Types
Positive balances for these accounts are balances where total
debits > total credits to the account and their balances should
show in the Debit Column.
1. Assets
2. Costs of Goods Sold
3. Expenses
4. Other Expenses
12
Source of Funds (Credit) Accounting
Types
• Each Accounting Type under the “Source of Funds” Category
increases in value or balance with each credit (Source of
Funds) transaction entry and decreases in value or balance
with each debit (Use of Funds) transaction entry.
• Source of Funds Accounts are sometimes referred to as Credit
Accounts.
13
Source of Funds (Credit) Accounting
Types
Positive balances for these accounts are balances where total
credits > total debits to the account and their balances should
show in the Credit Column.
1. Liabilities - Things you owe
2. Equity - Owners’ Stake in Company
3. Revenue - Income through Sales of the Products of the
Business
4. Other Revenues - Revenues that are unusual cases and are
not directly related to the business product and are not usual
revenues from running a business.
14
FINANACIAL STATEMENTS
ANNUAL REPORT
• Financial Statements
– Income Statement
– Statement of Retained Earnings
– Balance Sheet
– Statement of Cash Flows
• Management Discussion and Analysis
• Notes to Financial Statements
• Auditor's Report
Financial Accounting Statements
• Income Statement - reports the results of
operations for a specific period of time
• Retained Earnings Statement - reports the
changes in retained earnings for a specific period
of time
• Balance Sheet - reports the assets, liabilities, and
stockholders’ equity at a specific date
• Statement of Cash Flows - reports the cash
receipts and payments for a specific period of
time
17
Management Discussion
and Analysis
Covers three aspects of a company:
– liquidity - ability to pay near term
obligations
– capital resources - fund operations and
expansions
– results of operation
18
Notes to Financial Statements
• Provide additional information not
included in body of statements
• Describe accounting policies or explain
uncertainties and contingencies
19
Auditor's Report
• Auditor, a professional accountant who conducts
an independent examination of the financial
accounting data presented by a company.
• Auditor gives an unqualified opinion if the
financial statements present the financial
position, results of operations, and cash flows in
accordance with GAAP.
20
Statement of Cash Flows
21
Statement of Cash Flows
The Cash Flow Statement (Statement of Cash Flows) provides
an overview of the way Funds move through an Entity, how
they impact Overall Value and eventually reconcile with Cash
Balances and determine Net Cash Flow in any given year.
22
3 Types of Business Activity
• Financing
• Investing
• Operating
23
Financing Activities
It
Takes
MONEY
to
Make
MONEY!
24
2 Ways of Outside Financing of a
Corporation
• Borrowing Money
(liabilities)
• Selling Shares of
Stock
25
Investing Activities
Obtaining the Resources or Assets
needed to operate the business
Examples of assets...
•
•
•
•
Cash
Accounts Receivable
Prepaid Rent
Buildings, Equipment, Furniture
26
Investing Activities - Examples
• Purchase or Sale of computers, delivery
trucks, furniture, buildings
• Purchase or Sale of investments
27
Remember...
Remaining
Liquid and Solvent
is as important as making a profit
because...
A Company Can Survive a
Long Time Without Profits...
but It Can’t
Survive
Very Long
Without
CASH!
Cash flow statement
1. Operating Activities
Net Income
+ Depreciation Expense (+ Increase and -Decrease in
Accumulated Depreciation)
+ Increases in Current Liabilities
+ Decreases in Current Assets
- Increases in Current Assets
- Decreases in Current Liabilities
Cash flow statement
2. Investing Activities
+ Decreases in Long Term/Fixed Assets (Independent
of Accumulated Depreciation)
- Increases in Long Term/Fixed Assets (Independent of
Accumulated Depreciation)
Cash flow statement
3. Financing Activities
+ Increases in Long Term Liabilities/Debt
- Decreases in Long Term Liabilities/Debt
+ Increases in Owners’ Capital
- Decreases in Owners’ Capital
- Increases in Dividends
Beginning Cash Balance - Net
Increase/Decrease = Ending Cash Balance
Statement of Cash Flows
Cash Flows From Operating Activities
Net Income
Depreciation
Increase in Payables
Net Cash Provided by Operating Activities
Cash Flows From Investing Activities
Increase in Fixed Assets
Net Cash Used by Investing Activities
$45,104
$496
$1,700
————
$47,300
————
$2,950
————
-$2,950
————
Cash Flows From Financing Activities
Net Cash Provided by Financing Activities
Increase in Cash and Cash Equivalents (Net Cash Flow)
Cash and Cash Equivalents at Beginning of Year
Cash and Cash Equivalents at End of Year
$0
————
$0
————
$44,350
$0
————
$44,350
Income Statement
Income Statement
• The Income Statement Accounting Types are
Revenue, Cost of Goods Sold and Expenses.
The Accounts that are not on the Income
Statement are on the Balance Sheet.
• As its name suggests, the purpose of the
Income Statement is to report Income.
Income = Revenue - Expenses. It is almost
that simple, but there is more to the Income
Statement than a simple calculation.
Income Statement
Revenue
-Cost of Goods Sold
—————=Gross Margin
-Expenses
—————=Operating Income
+Other Revenue
-Other Expenses
—————=Net Income
CSU CORPORATION
Income Statement
For the Year Ended December 31, 2008
1st- head up the statement
•name of company
•name of statement
•period of time covered
CSU CORPORATION
Income Statement
For the Year Ended December 31, 2008
Revenues
Service revenue
2nd - List the revenues
$17,000
CSU CORPORATION
Income Statement
For the Year Ended December 31, 2008
Revenues
Service revenue
Expenses
Rent expense
Insurance expense
Supplies expense
Total expenses
$17,000
$9,000
1,000
200
10,200
3rd - List and total the expenses
CSU CORPORATION
Income Statement
For the Year Ended December 31, 2008
Revenues
Service revenue
Expenses
Rent expense
Insurance expense
Supplies expense
Total expenses
Net Income
$17,000
$9,000
1,000
200
10,200
$ 6,800
4th - Subtract expenses from
revenues to obtain net income.
Retained Earning
CSU CORPORATION
Retained Earnings Statement
For the Year Ended December 31, 2008
1st- head up the statement
•name of company
•name of statement
•period of time covered
CSU CORPORATION
Retained Earnings Statement
For the Year Ended December 31, 2008
Retained earnings, January 1
$
2nd - Start with beginning
retained earnings
0
CSU CORPORATION
Retained Earnings Statement
For the Year Ended December 31, 2008
Retained earnings, January 1
Add: Net Income
$
0
6,800
6,800
3rd - Add net income from the
current year - subtotal
CSU CORPORATION
Retained Earnings Statement
For the Year Ended December 31, 1998
Retained earnings, January 1
Add: Net Income
$
Less: Dividends
Retained earnings, December 31 $ 6,800
0
6,800
6,800
0
4th - Subtract current year’s
dividends and total
Balance Sheet
The Balance Sheet
The balance sheet equation:
Assets = Liabilities + Owners’ Equity
or
Owners’ Equity = Assets - Liabilities
CSU CORPORATION
Balance Sheet
December 31, 2008
1st- head up the statement
•name of company
•name of statement
•date
CSU CORPORATION
Balance Sheet
December 31, 2008
Assets
Cash
Accounts receivable
Supplies
Equipment
Total assets
$ 2,000
4,000
1,800
16,000
$23,800
2nd - list the assets and total
CSU CORPORATION
Balance Sheet
December 31, 2008
Assets
Cash
Accounts receivable
Supplies
Equipment
Total assets
Liabilities and Stockholders’ Equity
Liabilities
Accounts payable
Notes payable
Total liabilities
$ 2,000
4,000
1,800
16,000
$23,800
$ 2,000
5,000
7,000
3rd - list the liabilities and subtotal
CSU CORPORATION
Balance Sheet
December 31, 2008
4th - list stockholders’ equity
subtotal. Add to liabilities,
Total
CSU CORPORATION
Balance Sheet
December 31, 2008
Assets
Cash
Accounts receivable
Supplies
Equipment
Total assets
Liabilities and Stockholders’ Equity
Liabilities
Accounts payable
Notes payable
Total liabilities
Stockholders’ equity
Common stock
Retained earnings
Total Stockholders’ equity
Total liabilities and stockholders’ equity
$ 2,000
4,000
1,800
16,000
$23,800
$ 2,000
5,000
7,000
10,000
6,800
16,800
$23,800
CSU CORPORATION
Balance Sheet
December 31, 2008
Assets
Cash
Accounts receivable
Supplies
Equipment
Total assets
Liabilities and Stockholders’ Equity
Liabilities
Accounts payable
Notes payable
Total liabilities
$ 2,000
4,000
1,800
16,000
$23,800
$ 2,000
5,000
7,000
3rd - list the liabilities and subtotal
CSU CORPORATION
Balance Sheet
December 31, 1998
4th - list stockholders’ equity
subtotal. Add to liabilities,
Total
In what order are financial
statements prepared?
WHY?
CSU CORPORATION
Income Statement
For the Year Ended December 31, 2008
Revenues
Service revenue
Expenses
Rent expense
Insurance expense
Supplies expense
Total expenses
Net Income
$17,000
$9,000
1,000
200
10,200
$ 6,800
Net Income is needed for the
Statement of Retained Earnings.
CSU CORPORATION
Retained Earnings Statement
For the Year Ended December 31, 2008
Retained earnings, January 1
Add: Net Income
$
Less: Dividends
Retained earnings, December 31 $ 6,800
0
6,800
6,800
0
Ending Retained Earnings is needed
for the balance sheet.
CSU CORPORATION
Balance Sheet
December 31, 2008
Assets
Cash
Accounts receivable
Supplies
Equipment
Total assets
Liabilities and Stockholders’ Equity
Liabilities
Accounts payable
Notes payable
Total liabilities
Stockholders’ equity
Common stock
Retained earnings
Total Stockholders’ equity
Total liabilities and stockholders’ equity
$ 2,000
4,000
1,800
16,000
$23,800
$ 2,000
5,000
7,000
10,000
6,800
16,800
$23,800