Chapter
1-1
CHAPTER 1
ACCOUNTING IN
ACTION
Accounting Principles, Eighth Edition
Chapter
1-2
Study Objectives
1.
Explain what accounting is.
2.
Identify the users and uses of accounting.
3.
Understand why ethics is a fundamental business concept.
4.
Explain generally accepted accounting principles and the
cost principle.
5.
Explain the monetary unit assumption and the economic
entity assumption.
6.
State the accounting equation, and define assets, liabilities,
and owner’s equity.
7.
Analyze the effects of business transactions on the
accounting equation.
8.
Understand the four financial statements and how they are
prepared.
Chapter
1-3
Accounting in Action
What is
Accounting?
Three
activities
Who uses
accounting
data
The Building
Blocks of
Accounting
Ethics in
financial
reporting
Generally
accepted
accounting
principles
Assumptions
Chapter
1-4
The Basic
Accounting
Equation
Assets
Using the
Basic
Accounting
Equation
Financial
Statements
Liabilities
Transaction
analysis
Income
statement
Owner’s
equity
Summary of
transactions
Owner’s
equity
statement
Balance
sheet
Statement of
cash flows
What is Accounting?
The purpose of accounting is to:
(1) identify, record, and communicate the
economic events of an
(2) organization to
(3) interested users.
Chapter
1-5
LO 1 Explain what accounting is.
What is Accounting?
Three Activities
Illustration 1-1
Accounting process
The accounting process includes
the bookkeeping function.
Chapter
1-6
LO 1 Explain what accounting is.
Who Uses Accounting Data?
Internal Users
Human
Resources
Finance
Management
IRS
Investors
There are two broad
groups of users of
financial information:
internal users and
external users.
Marketing
Customers
Chapter
1-7
SEC
Labor
Unions
Creditors
External
Users
LO 2 Identify the users and uses of accounting.
Who Uses Accounting Data?
Common Questions Asked
1. Can we afford to give our
employees a pay raise?
User
Human Resources
2. Did the company earn a
satisfactory income?
Investors
3. Do we need to borrow in the
near future?
4. Is cash sufficient to pay
dividends to the stockholders?
Management
Finance
5. What price for our product
will maximize net income?
Marketing
6. Will the company be able to
pay its short-term debts?
Creditors
Chapter
1-8
LO 2 Identify the users and uses of accounting.
Who Uses Accounting Data?
Discussion Question
Q1. “Accounting is ingrained in our society and it is
vital to our economic system.” Do you agree? Explain.
See notes page for discussion
Chapter
1-9
LO 3 Understand why ethics is a fundamental business concept.
The Building Blocks of Accounting
Ethics In Financial Reporting
Standards of conduct by which one’s actions are
judged as right or wrong, honest or dishonest, fair or
not fair, are Ethics.
Recent financial scandals include: Enron,
WorldCom, HealthSouth, AIG, and others.
Congress passedSarbanes-Oxley Act of 2002.
Effective financial reporting depends on sound
ethical behavior.
Chapter
1-10
LO 3 Understand why ethics is a fundamental business concept.
Ethics
Review Question
Ethics are the standards of conduct by which one's
actions are judged as:
a. right or wrong.
b. honest or dishonest.
c. fair or not fair.
d. all of these options.
Chapter
1-11
LO 3 Understand why ethics is a fundamental business concept.
Ethics
Review Question
Ethics are the standards of conduct by which one's
actions are judged as:
a. right or wrong.
b. honest or dishonest.
c. fair or not fair.
d. all of these options.
Chapter
1-12
LO 3 Understand why ethics is a fundamental business concept.
The Building Blocks of Accounting
Various users
need financial
information
The accounting profession
has attempted to develop
a set of standards that
are generally accepted
and universally practiced.
Chapter
1-13
Financial Statements
Balance Sheet
Income Statement
Statement of Owner’s Equity
Statement of Cash Flows
Note Disclosure
Generally Accepted
Accounting
Principles (GAAP)
LO 4 Explain generally accepted accounting principles and the cost principle.
The Building Blocks of Accounting
Organizations Involved in Standard Setting:
Securities and Exchange Commission (SEC)
http://www.sec.gov/
Financial Accounting Standards Board (FASB)
http://www.fasb.org/
International Accounting Standards Board
(IASB)
http://www.iasb.org/
Chapter
1-14
LO 4 Explain generally accepted accounting principles and the cost principle.
The Building Blocks of Accounting
Cost Principle (Historical) – dictates that companies
record assets at their cost.
Issues:
Reported at cost when purchased and also over the
time the asset is held.
Cost easily verified, whereas market value is often
subjective.
Fair value information may be more useful.
Chapter
1-15
LO 4 Explain generally accepted accounting principles and the cost principle.
Assumptions
Monetary Unit Assumption – include in the
accounting records only transaction data that can be
expressed in terms of money.
Economic Entity Assumption – requires that
activities of the entity be kept separate and distinct
from the activities of its owner and all other economic
entities.
Proprietorship.
Partnership.
Forms of
Business Ownership
Corporation.
Chapter
1-16
LO 5 Explain the monetary unit assumption
and the economic entity assumption.
Forms of Business Ownership
Proprietorship
Chapter
1-17
Partnership
Corporation
Generally owned
by one person.
Owned by two or
more persons.
Often small
service-type
businesses
Often retail and
service-type
businesses
Ownership
divided into
shares of stock
Owner receives
any profits,
suffers any
losses, and is
personally liable
for all debts.
Generally
unlimited
personal liability
Separate legal
entity organized
under state
corporation law
Limited liability
Partnership
agreement
LO 5 Explain the monetary unit assumption
and the economic entity assumption.
Assumptions
Review Question
Combining the activities of Kellogg and General
Mills would violate the
a. cost principle.
b. economic entity assumption.
c. monetary unit assumption.
d. ethics principle.
Chapter
1-18
LO 5 Explain the monetary unit assumption
and the economic entity assumption.
Assumptions
Review Question
Combining the activities of Kellogg and General
Mills would violate the
a. cost principle.
b. economic entity assumption.
c. monetary unit assumption.
d. ethics principle.
Chapter
1-19
LO 5 Explain the monetary unit assumption
and the economic entity assumption.
Forms of Business Ownership
Review Question
A business organized as a separate legal entity
under state law having ownership divided into
shares of stock is a
a. proprietorship.
b. partnership.
c. corporation.
d. sole proprietorship.
Chapter
1-20
LO 5 Explain the monetary unit assumption
and the economic entity assumption.
Forms of Business Ownership
Review Question
A business organized as a separate legal entity
under state law having ownership divided into
shares of stock is a
a. proprietorship.
b. partnership.
c. corporation.
d. sole proprietorship.
Chapter
1-21
LO 5 Explain the monetary unit assumption
and the economic entity assumption.
The Basic Accounting Equation
Assets
=
Liabilities
+
Owner’s
Equity
Provides the underlying framework for recording and
summarizing economic events.
Assets are claimed by either creditors or owners.
Claims of creditors must be paid before ownership
claims.
Chapter
1-22
LO 6
State the accounting equation, and define
assets, liabilities, and owner’s equity.
The Basic Accounting Equation
Assets
=
Liabilities
+
Owner’s
Equity
Provides the underlying framework for recording and
summarizing economic events.
Assets
Resources a business owns.
Provide future services or benefits.
Cash, Supplies, Equipment, etc.
Chapter
1-23
LO 6
State the accounting equation, and define
assets, liabilities, and owner’s equity.
The Basic Accounting Equation
Assets
=
Liabilities
+
Owner’s
Equity
Provides the underlying framework for recording and
summarizing economic events.
Liabilities
Claims against assets (debts and obligations).
Creditors - party to whom money is owed.
Accounts payable, Notes payable, etc.
Chapter
1-24
LO 6
State the accounting equation, and define
assets, liabilities, and owner’s equity.
The Basic Accounting Equation
Assets
=
Liabilities
+
Owner’s
Equity
Provides the underlying framework for recording and
summarizing economic events.
Owner’s Equity
Ownership claim on total assets.
Referred to as residual equity.
Chapter
1-25
Capital, Drawings, etc. (Proprietorship or
Partnership).
LO 6
State the accounting equation, and define
assets, liabilities, and owner’s equity.
Owners’ Equity
Illustration 1-6
Revenues result from business activities entered into for
the purpose of earning income.
Common sources of revenue are: sales, fees, services,
commissions, interest, dividends, royalties, and rent.
Chapter
1-26
LO 6
State the accounting equation, and define
assets, liabilities, and owner’s equity.
Owners’ Equity
Illustration 1-6
Expenses are the cost of assets consumed or services
used in the process of earning revenue.
Common expenses are: salaries expense, rent expense,
utilities expense, tax expense, etc.
Chapter
1-27
LO 6
State the accounting equation, and define
assets, liabilities, and owner’s equity.
Using The Basic Accounting Equation
Transactions are a business’s economic events
recorded by accountants.
May be external or internal.
Not all activities represent transactions.
Each transaction has a dual effect on the
accounting equation.
Chapter
1-28
LO 7
Analyze the effects of business transactions
on the accounting equation.
Transactions (Question?)
Q1-15: Are the following events recorded in the
accounting records?
Owner
An employee
is hired.
withdraws
cash for
personal use.
Event
Supplies are
purchased
on account.
Criterion
Is the financial position (assets, liabilities, or
owner’s equity) of the company changed?
Record/
Don’t Record
Chapter
1-29
LO 7
Analyze the effects of business transactions
on the accounting equation.
Transactions
Discussion Question
Q18. In February 2008, Paula King invested an
additional $10,000 in her business, King’s
Pharmacy, which is organized as a proprietorship.
King’s accountant, Lance Jones, recorded this
receipt as an increase in cash and revenues. Is
this treatment appropriate? Why or why not?
See notes page for discussion
Chapter
1-30
LO 7
Analyze the effects of business transactions
on the accounting equation.
Transactions (Problem)
P1-1A: Barone’s Repair Shop was started on May 1 by
Nancy. Prepare a tabular analysis of the following
transactions for the month of May.
1. Invested $10,000 cash to start the repair shop.
Liabilities
Assets
Cash
Accounts
Accounts
Barone,
+ Receivable + Equipment = Payable + Capital
1. +10,000
Chapter
1-31
Equity
+10,000
LO 7
Investment
Analyze the effects of business transactions
on the accounting equation.
Transactions (Problem)
2. Purchased equipment for $5,000 cash.
Liabilities
Assets
Cash
Accounts
Accounts
Barone,
+ Receivable + Equipment = Payable + Capital
1. +10,000
2. -5,000
Chapter
1-32
Equity
+10,000
Investment
+5,000
LO 7
Analyze the effects of business transactions
on the accounting equation.
Transactions (Problem)
3. Paid $400 cash for May office rent.
Liabilities
Assets
Cash
Accounts
Accounts
Barone,
+ Receivable + Equipment = Payable + Capital
1. +10,000
2. -5,000
3.
Chapter
1-33
Equity
+10,000
Investment
+5,000
-400
-400
LO 7
Expense
Analyze the effects of business transactions
on the accounting equation.
Transactions (Problem)
4. Received $5,100 from customers for repair service.
Liabilities
Assets
Cash
Accounts
Accounts
Barone,
+ Receivable + Equipment = Payable + Capital
1. +10,000
2. -5,000
3.
4.
+10,000
Investment
+5,000
-400
+5,100
Chapter
1-34
Equity
-400
+5,100
LO 7
Expense
Revenue
Analyze the effects of business transactions
on the accounting equation.
Transactions (Problem)
5. Withdrew $1,000 cash for personal use.
Liabilities
Assets
Cash
Accounts
Accounts
Barone,
+ Receivable + Equipment = Payable + Capital
1. +10,000
2. -5,000
Equity
+10,000
Investment
+5,000
3.
4.
-400
+5,100
-400
+5,100
Expense
Revenue
5.
-1,000
-1,000
Drawings
Chapter
1-35
LO 7
Analyze the effects of business transactions
on the accounting equation.
Transactions (Problem)
6. Paid part-time employee salaries of $2,000.
Liabilities
Assets
Cash
Accounts
Accounts
Barone,
+ Receivable + Equipment = Payable + Capital
1. +10,000
2. -5,000
3.
4.
Equity
+10,000
Investment
+5,000
-400
+5,100
-400
+5,100
Expense
Revenue
5. -1,000
6. -2,000
-1,000
-2,000
Drawings
Expense
Chapter
1-36
LO 7
Analyze the effects of business transactions
on the accounting equation.
Transactions (Problem)
7. Incurred $250 of advertising costs, on account.
Liabilities
Assets
Cash
Accounts
Accounts
Barone,
+ Receivable + Equipment = Payable + Capital
1. +10,000
2. -5,000
3.
4.
Equity
+10,000
Investment
+5,000
-400
+5,100
-400
+5,100
Expense
Revenue
5. -1,000
6. -2,000
-1,000
-2,000
Drawings
Expense
7.
Chapter
1-37
+250
LO 7
-250
Expense
Analyze the effects of business transactions
on the accounting equation.
Transactions (Problem)
8. Provided $750 of repair services on account.
Liabilities
Assets
Cash
Accounts
Accounts
Barone,
+ Receivable + Equipment = Payable + Capital
1. +10,000
+10,000
2. -5,000
3.
4.
Equity
Investment
+5,000
-400
+5,100
-400
+5,100
Expense
Revenue
5. -1,000
6. -2,000
-1,000
-2,000
Drawings
Expense
7.
8.
Chapter
1-38
+250
+750
LO 7
-250
+750
Expense
Revenue
Analyze the effects of business transactions
on the accounting equation.
Transactions (Problem)
9. Collected $120 cash for services previously billed.
Liabilities
Assets
Cash
Accounts
Accounts
Barone,
+ Receivable + Equipment = Payable + Capital
1. +10,000
+10,000
2. -5,000
3.
4.
Equity
Investment
+5,000
-400
+5,100
-400
+5,100
Expense
Revenue
5. -1,000
6. -2,000
-1,000
-2,000
Drawings
Expense
7.
8.
9.
Chapter
1-39
+250
+750
+120
6,820 +
-120
630 +
5,000 =
LO 7
250 +
-250
+750
Expense
Revenue
12,200
Analyze the effects of business transactions
on the accounting equation.
Financial Statements
Companies prepare four financial statements from
the summarized accounting data:
Income
Statement
Chapter
1-40
Owner’s
Equity
Statement
Balance
Sheet
Statement
of Cash
Flows
LO 8 Understand the four financial statements and how they are prepared.
Financial Statements
Review Question
Net income will result during a time period when:
a. assets exceed liabilities.
b. assets exceed revenues.
c. expenses exceed revenues.
d. revenues exceed expenses.
Chapter
1-41
LO 8 Understand the four financial statements and how they are prepared.
Financial Statements
Income Statement
Barone’s Repair Shop
Income Statement
For the Month Ended May 31, 2008
Revenues:
Service revenue
$ 5,850
Expenses:
Salary expense
Rent expense
Advertising expense
Total expenses
Net income
Chapter
1-42
2,000
400
250
2,650
$ 3,200
Reports the revenues
and expenses for a
specific period of time.
Net income – revenues
exceed expenses.
Net loss – expenses
exceed revenues.
LO 8 Understand the four financial statements and how they are prepared.
Financial Statements
Income Statement
Owner’s Equity
Statement
Barone’s Repair Shop
Barone’s Repair Shop
Income Statement
Owner's Equity Statement
For the Month Ended May 31, 2008
For the Month Ended May 31, 2008
Revenues:
Service revenue
$ 5,850
Expenses:
Salary expense
Rent expense
Advertising expense
Total expenses
Net income
2,000
400
250
2,650
Barone's, Capital May 1
$
-
Add: Investment
10,000
Net income
3,200
Less: Drawings
Barone's, Capital May 31
13,200
1,000
$12,200
$ 3,200
Net income is needed to determine
the ending balance in owner’s equity.
Chapter
1-43
LO 8 Understand the four financial statements and how they are prepared.
Financial Statements
Owner’s Equity
Statement
Statement indicates the
reasons why owner’s
equity has increased or
decreased during the
period.
Barone’s Repair Shop
Owner's Equity Statement
For the Month Ended May 31, 2008
Barone's, Capital May 1
Add: Investment
Net income
Less: Drawings
Barone's, Capital May 31
Chapter
1-44
$
-
10,000
3,200
13,200
1,000
$12,200
LO 8 Understand the four financial statements and how they are prepared.
Financial Statements
Balance Sheet
Barone’s Repair Shop
Barone’s Repair Shop
Balance Sheet
Owner's Equity Statement
May 31, 2008
For the Month Ended May 31, 2008
Assets
Cash
$ 6,820
Accounts receivable
630
Equipment
5,000
Total assets
$12,450
Liabilities
Accounts payable
$
250
12,200
Total liab. & equity $12,450
Chapter
1-45
Barone's, Capital May 1
Add: Investment
Net income
Less: Drawings
Owner's Equity
Barone's, capital
Owners’ Equity
Statement
Barone's, Capital May 31
$
10,000
3,200
13,200
1,000
$ 12,200
The ending balance in owner’s equity is
needed in preparing the balance sheet
LO 8 Understand the four financial statements and how they are prepared.
Financial Statements
Balance Sheet
Barone’s Repair Shop
Balance Sheet
May 31, 2008
Assets
Cash
Accounts receivable
Equipment
Total assets
$ 6,820
630
5,000
$12,450
Assets listed at the top,
followed by liabilities
and owner’s equity.
$
Total assets must equal
total liabilities and
owner’s equity.
Liabilities
Accounts payable
250
Owner's Equity
Barone's, capital
Total liab. & equity
Chapter
1-46
Reports the assets,
liabilities, and owner’s
equity at a specific date.
12,200
$12,450
LO 8 Understand the four financial statements and how they are prepared.
Financial Statements
Balance Sheet
For the Month Ended May 31, 2008
Balance Sheet
Cash flow from operating activities
May 31, 2008
Assets
$ 6,820
Accounts receivable
630
Equipment
5,000
Total assets
$12,450
Liabilities
Accounts payable
$
Barone’s Repair Shop
Statement of Cash Flows
Barone’s Repair Shop
Cash
Statement of Cash Flows
250
Owner's Equity
Barone's, capital
12,200
Total liab. & equity $12,450
Cash receipts from revenues
Cash paid for expenses
Cash provided by operations
Cash flow from investing activitites
Purchase of equipment
(5,000)
Cash flow from financing activities
Investment by owners
Drawings by owners
Cash provided by financing
10,000
(1,000)
9,000
Net increase in cash
6,820
Cash balance, May 1
-
Cash balance, May 31
Chapter
1-47
$ 5,220
(2,400)
2,820
$ 6,820
LO 8 Understand the four financial statements and how they are prepared.
Financial Statements
Information for a
specific period of time.
Answers the following:
1. Where did cash come
from?
2. What was cash used
for?
3. What was the change
in the cash balance?
Statement of Cash Flows
Barone’s Repair Shop
Statement of Cash Flows
For the Month Ended May 31, 2008
Cash flow from operating activities
Cash receipts from customers
Cash paid for expenses
Cash provided by operations
Cash flow from investing activities
Purchase of equipment
(5,000)
Cash flow from financing activities
Investment by owners
Drawings by owners
Cash provided by financing
10,000
(1,000)
9,000
Net increase in cash
6,820
Cash balance, May 1
-
Cash balance, May 31
Chapter
1-48
$ 5,220
(2,400)
2,820
$ 6,820
LO 8 Understand the four financial statements and how they are prepared.
Financial Statements
Review Question
Which of the following financial statements is
prepared as of a specific date?
a. Balance sheet.
b. Income statement.
c. Owner's equity statement.
d. Statement of cash flows.
Chapter
1-49
LO 8 Understand the four financial statements and how they are prepared.
Financial Statements
Discussion Question
Q19. “A company’s net income appears directly
on the income statement and the owner’s equity
statement, and it is included indirectly in the
company’s balance sheet.” Do you agree? Explain.
See notes page for discussion
Chapter
1-50
LO 8 Understand the four financial statements and how they are prepared.
Accounting Career Opportunities
Public Accounting
Careers in auditing and taxation serving the general public.
Private Accounting
Careers in industry working in cost accounting, budgeting,
accounting information systems, and taxation.
Opportunities in Government
Careers with the IRS, the FBI, the SEC, and in public
colleges and universities.
Forensic Accounting
Careers with insurance companies and law offices to conduct
investigations into theft and fraud.
Chapter
1-51
LO 9 Explain the career opportunities in accounting.
Copyright
Copyright © 2008 John Wiley & Sons, Inc. All rights reserved.
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use of these programs or from the use of the information
contained herein.
Chapter
1-52