ACCOUNTING:
The Language
of Business
© 2006 Prentice Hall Business Publishing
CHAPTER
Introduction to Financial Accounting, 9/e
1
Horngren/Sundem/Elliott/Philbrick
WELCOME!!
Roses are RED
Violets are BLUE
Profits are COOL
I wish this room was TOO
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TEAMWORK
• I like the analogy of COACH and PERFORMER
– MY JOB is to serve as a teacher and guide; to give
you challenges that are difficult but attainable. Some
of the time will be spent on “fundamentals” or drills
and may seem boring or not relevant. Some of the
time will be spent performing – might be stressful.
– YOUR JOB is to come prepared to work and learn.
You need to be rested and aware, you also need to
ask questions when things are not clear. You need to
try new things, even when they are difficult or
uncomfortable. Finally, you need to take pride in your
performance and practice to improve.
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USING ACCOUNTING
Quiet Think Exercise – 3 minutes
• List the name/title of a managerial position you would
like to have within the next 5 years. Name the company.
• List one important decision this manager makes where
accounting information is involved? (i.e. this person
decides how to ____ by using ______)
• How does the accounting information influence their
decision? (i.e. when the accounting information is ____
the person is more/less likely to choose/do ______)
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USING ACCOUNTING
Share your answers – 3 minutes
• Person closest to the Mill Race goes first –
share your answers (30 seconds).
• Clockwise – everyone else share your answers
(90 seconds).
• Last person will be “reporter” - choose one you
liked best (can be your own) to share with class
– write on board (1 minute).
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USING ACCOUNTING
Discussion
• Accounting is often called the “Language of
Business”, this exercise becomes easier when:
– You know more about business (organizations?)
– You know more about accounting
• What might be the language of “government”?
– Perhaps “politics”
• What might be the language of “not-for-profit”?
– Perhaps “outcomes”
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SYLLABUS - Overview
• Two overall objectives:
– What accounting information is useful for decisionmaking.
– What impact will decisions have upon subsequent
accounting information and reports.
NOTE: We will adopt a fairly BROAD definition of accounting information
– we will also try to integrate our decision-making with other courses
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SYLLABUS - Overview
• New style (for me) - LEARNING OBJECTIVES
• Focus is on what STUDENTS CAN DO
• Therefore: lots of time spent with:
– Interactive exercises
– Homework
– Student’s talking
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SYLLABUS - Grading
• Homework
- 45% (practice)
• Quizzes
- 20% (“regular” season)
• Final Exams
- 35% (“Playoffs”; “Majors”)
ALWAYS driven by the LEARNING OBJECTIVES
ALWAYS done by student number – i.e. BLIND
ALWAYS keep perspective – grow & learn
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SYLLABUS - Industry Analysis
• A great way to apply what we are learning –
accounting is a “support” function – so we need
tangible examples to work with.
• Will use the numbers initially, then we will look to
non-financial and non-accounting information to
supplement our decision-making and analysis.
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INDUSTRY SELECTION
Quiet Think – 2 minutes
• Write down the single industry you are most
interested in studying for the entire course.
• Write down two reasons why this industry will be
valuable for this course.
• Write down as many organizations within that
industry that you can – up to 10 (feel free to go
online – try YahooFinance at finance.yahoo.com).
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INDUSTRY SELECTION
Group Discussion
• Person furthest from the Mill Race goes first –
share your answers (30 seconds each).
• Discuss among yourselves and choose any or
all industries you want to share with the class for
a vote – WRITE “Industry” ON THE BOARD.
• VOTE (online via Inquiry Poll)
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Course Overview
THE FOUR MODULES
GAAP Financial
Statements
Business
Models
Costing
Methods
Management
Decisions
This is a “survey” course – just introducing topics.
Advanced classes needed to become skilled.
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CHAPTER 1
• Learning Objectives
• Brief Comments
• Exercise 1-31
• Next Class
– CH. 1 Textbook homework – submit by 4:30 pm - Thu
• Online - use ClassTools/Hand Ins
• Paper – use folder by Mary Stout’s desk
– Read Ch. 2
– EXCEL questions:
• bring to class
• Post to ClassTools/Discussion
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Learning Objectives
After studying this chapter, you should be able to
1. Explain how accounting information assists in
making decisions
2. Describe the components of the balance sheet
3. Analyze business transactions and relate them to
changes in the balance sheet
4. Compare the features of sole proprietorships,
partnerships, and corporations
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Learning Objectives
After studying this chapter, you should be able to
5. Identify how the owners’ equity section in a
corporate balance sheet differs from that in a sole
proprietorship or partnership
6. Describe auditing and how it enhances the value of
financial information
7. Explain the regulation of financial reporting
8. Evaluate the role of ethics in the accounting
profession
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The Nature of Accounting (LO 1)
• Accounting is the process of identifying,
recording, summarizing, and reporting economic
information for decision makers
• Accountants present this information in reports
called financial statements
Event
Accountant’s
Analysis and
Recording
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Financial
Statements
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Users
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Accounting as an Aid
to Decision Making
• Accounting information is useful to anyone
making decisions that have economic
consequences
• These decision makers include
–
–
–
–
Managers
Owners
Investors
Politicians
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Financial Accounting
• Financial accounting serves external
decision makers:
–
–
–
–
Stockholders
Suppliers
Banks
Government agencies
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Management Accounting
• Management accounting serves internal
decision makers:
–
–
–
–
–
Top executives
Department heads
College deans
Hospital administrators
Other managers within the organizations
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The Annual Report
• The annual report is prepared by management
and informs investors about the company’s past
performance and future prospects
NOTE: Our advanced course GSM 605 “Financial
Reporting” covers the annual report in great
detail – strongly encouraged for Finance majors
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The Annual Report
• The annual report includes
– A letter from corporate management
– Management discussion and analysis
– Footnotes explaining many elements of the financial
statements in more detail
– The report of the independent auditors
– A statement of management’s responsibility for
preparation of the financial statements
– Other corporate information
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The Annual Report
• A company’s financial statements can also be
found in Form 10-K, which it files annually with
the Securities and Exchange Commission
• The three major financial statements are the
– Balance sheet
– Income statement
– Statement of cash flows
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The Annual Report
• The balance sheet focuses on the financial
position of a company on a particular day
• The income statement and cash flow statement
focus on the company’s performance over time
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The Balance Sheet (LO 2)
• The balance sheet (also called the statement of
financial position) shows the financial status of a
company at a particular instant in time
• The left side lists the resources of the firm
• The right side lists the claims against those
resources
Assets= Liabilities + Owners’ equity
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The Balance Sheet
• Assets are economic resources that the
company expects to help generate future cash
inflows or reduce or prevent future cash outflows
– Examples: Cash, inventories, equipment
• Liabilities are economic obligations of the
organization to outsiders (creditors)
– Example: A debt to a bank in the form of a note
payable
• Owners’ equity is the owners’ claim on the
organization’s assets
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The Balance Sheet
• Open account – the practice of making most
purchases on a credit basis instead of cash
basis
• Accounts receivable are assets that result from
the sale of goods or services on open account
• Accounts payable are liabilities that result from a
purchase of goods or services on open account
• Inventories are assets held by the company for
the purpose of sale to customers
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Balance Sheet Transactions (LO 3)
• Every transaction of a company or entity affects
the balance sheet equation
– An entity is an organization that stands apart from
other organizations and individuals as a separate
economic unit
– A transaction is any event that affects the financial
position of an entity and that can reliably recorded in
money terms
NOTE: LOTS of “events” are NOT transactions – i.e.
the resignation of the CEO is not a transaction
(except for the financial obligations of the deal)
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Balance Sheet Transactions
• An account is a summary record of the changes
in a particular asset, liability, or owners’ equity
item
• The double-entry accounting system records
each transaction in at least two accounts
• A compound entry affects more than two
balance sheet accounts
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Balance Sheet Transactions
Transaction 1: Initial Investment of $400,000
Assets
=
Liabilities
+
Owners’ Equity
Cash
(1)
+ $400,000
Lopez, Capital
=
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+$400,000
(Owner Investment)
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Balance Sheet Transactions
Transaction 2: Loan of $100,000 from Bank
Assets
=
Cash
Liabilities
+ $400,000
=
(2)
+ $100,000
=
+ $100,000
$500,000
=
$100,000
$500,000
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Owners’ Equity
Note payable
(1)
Bal.
+
Lopez, Capital
+$400,000
$400,000
$500,000
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Balance Sheet Transactions
Transaction 3: Acquire Store Equipment
for Cash, $15,000
Assets
Cash
=
Store Equipment
Bal. $500,000
Liabilities
Note payable
-15,000
+15,000
=
Bal.
485,000
15,000
=
$400,000
100,000
$500,000
Owners’ Equity
Lopez, Capital
= $100,000
(3)
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+
400,000
$500,000
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Preparing the Balance Sheet
Biwheels Company
Balance Sheet January 3, 20X2
Liabilities and Owners’ Equity
Assets
Cash
Store equipment
Total assets
$485,000
15,000
$500,000
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Liabilities (note payable)
Lopez, capital
Total liabilities
and owners’ equity
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$100,000
400,000
$500,000
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Types of Ownership (LO 4)
• Sole proprietorship – a business with a single
owner
• Partnership – an organization that joins two or
more individuals who act as co-owners
• Corporation – a business organization created
under state laws in the Unites States
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Corporation
– Publicly owned corporation – A corporation owned by
the public through the sale of shares; it may have
thousands of owners
– Privately owned corporation – A corporation owned by
families or a small group of shareholders; shares are
not publicly sold
– Corporation stockholders have limited liability
• Creditors have claims against the corporation
assets only, not the personal assets of the owners
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Advantages and Disadvantages
of the Corporate Form
• Advantages
• Disadvantages
– Limited liability
– Easy transfer of
ownership
– Ability to raise capital
from hundreds or
thousands of potential
stockholders
– Continuity of existence
– Prestige
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– Unfavorable tax laws
– Regulation
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Accounting Differences Among
Legal Forms (LO 5)
• Proprietorships and partnerships
– Owners’ equities are labeled capital
– Owners’ equities are recorded in the capital account
• Corporations
– Owners’ equities are labeled stockholders’ equity or
shareholders’ equity. Total capital investment is called
paid-in capital
– Owners’ equity is recorded in two parts:
• Common stock at par value
• Paid-in capital in excess of par value
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The Meaning of Par Value
• Par value (or stated value) – the dollar amount
printed on the stock certificate
• Paid-in capital in excess of par value (or
additional paid-in capital) – the difference
between the total amount the company receives
for the stock and the par value
• Common stock is recorded at the par value
• Common shareholders are owners who have a
“residual” ownership in the corporation through
the purchase of common stock
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Stockholders and the
Board of Directors
• Shareholders elect a board of directors to look
out for their interests
• Members of a board often include CEOs and
presidents of other corporations; university
presidents and professors; attorneys; and
community representatives
• The chairman of the board may also be the top
manager, the chief executive officer (CEO)
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Stockholders and the
Board of Directors
• The board’s duty is to ensure that managers act
in the interest of shareholders
• When boards do their duty in monitoring
management, the corporate form of organization
is effective
Stockholders
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Board of Directors
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Managers
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Credibility and Role of Auditing (LO 6)
• The separation of owners and managers creates
potential problems in getting truthful information
about the performance of a company
• Shareholders must rely on managers to tell the
truth
• The auditor examines the information that
managers use to prepare the financial
statements and provides assurances about the
credibility of those statements
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The Certified Public Accountant and
the Auditor’s Opinion
• Third party assurance about the credibility of
financial statements is provided by audit
professionals called Certified Public
Accountants (CPAs)
• CPAs are public accountants who offer services
including auditing, preparing income taxes, and
management consulting to the general public on
a fee basis
• Each state has a Board of Accountancy that sets
standards of both knowledge and integrity
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The Certified Public Accountant and
the Auditor’s Opinion
• An audit is an examination of a company’s
transactions and the resulting financial
statements
• The auditor’s opinion describes the scope and
results of the audit and a judgment that the
financial statements prepared by management
are accurate
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The Accounting Profession
• Public accountants offer services to the general
public for a fee
• Private accountants work for businesses,
government agencies, and other nonprofit
organizations
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Public Accounting Firms
• The four largest public accounting firms are
–
–
–
–
Deloitte Touche Tohmatsu
Ernst & Young
KPMG International
PricewaterhouseCoopers
• 97% of the firms listed on the NYSE are clients
of these four firms
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Public Accounting Firms
• Each firm has annual billings in excess of $1
billion
• All firms must follow generally accepted
accounting principles (GAAP)
– The broad concepts and detailed practices of
preparing and distributing financial statements
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Standard-Setting Bodies (LO 7)
• The Financial Accounting Standards Board
(FASB) is responsible for establishing GAAP in
the United States by issuing FASB Statements
• The Securities and Exchange Commission
(SEC) is responsible for authorizing the GAAP
for companies whose stock is held by the
general investing public
• The FASB and SEC work closely together and
seldom have public disagreements
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Standard-Setting Bodies
• The International Accounting Board (IASB)
– Is responsible for developing high quality,
understandable and enforceable global accounting
standards
– Has 12 full-time and 2 part-time members
– Standards will be adopted by the European Union for
financial statements prepared after 2005
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Standard-Setting Bodies
• The American Institute of Certified Public
Accountants (AICPA) is the principal
professional association in the private sector that
regulates the quality of the public accounting
profession
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Sarbanes-Oxley Act
• Established the Public Company Accounting
Oversight Board to regulate public accounting
and to set standards for audit procedures
through the issuance of generally accepted
auditing standards (GAAS)
• Prohibits public accounting firms from providing
audit clients with certain non-audit services
• Requires rotation every 5 years of the lead audit
or coordinating partner and the reviewing
partner on an audit
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Sarbanes-Oxley Act
• Provides regulation of corporate governance
– Requiring boards to appoint an audit committee
composed only of “independent” directors
– Requiring CEOs and chief financial officers (CFOs) to
personally sign a statement certifying the
appropriateness and fairness of their companies’
financial statements
– Increasing criminal penalties for knowingly
misreporting financial information
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Professional Ethics (LO 8)
• Members of the AICPA must abide by a code of
professional conduct
• The Institute of Management Accountants has a
code of ethics for management accounts
• Auditors and management accountants have
professional responsibilities concerning
competence, confidentiality, integrity, and
objectivity
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Professional Ethics
• Ethical standards are personal and depend on
the values of the individual
• A successful manager must recognize the
ethical dimensions of a situation and act with
absolute integrity
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Professional Ethics
• Despite the criticism of accounting ethics,
accountants were responsible for revealing the
problems in many of the recent corporate
scandals
• Companies often rely on accountants to
safeguard the ethics of the company
• WorldCom and Enron whistle-blowers became
two of the three 2002 Persons of the Year in
Time magazine
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Career Opportunities
for Accountants
• Accounting provides an excellent training ground
for future managers and executives
• More CEOs started out in finance or accounting
than any other area (according to one source)
NOTE: I firmly believe that accounting is one of
the best FIRST JOBS – even though many
change to a “non”-accounting title later in career
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Nonprofit Organizations
• Fundamental accounting principles also apply to
nonprofit organizations
• The Governmental Accounting Standards
Board (GASB) regulates disclosures for
governmental organizations
• The FASB regulates financial reporting for other
nonprofit organizations
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