8. Accounting and Finance

Finance

Business function concerned with obtaining and managing funds

Financial Management

Managing financial resources to achieve business goals and objectives

Financial Planning

Analyzing future financial needs and cash flows

Short-Term Forecast

Prediction of revenues, costs and expenses for one year or less

Long-Term Forecast

Prediction of revenues, costs and expenses for more than one year

Budget

Financial plan used to allocate resources and control spending

Debt Financing

Raising funds through borrowing that must be repaid

Equity Financing

Raising funds through ownership investment or retained earnings

Alternative Sources of Funds

1. Debt Financing

2. Equity Financing

Short-Term Debt Financing

Borrowed funds repaid within one year

Long-Term Debt Financing

Borrowed funds repaid over a period longer than one year

Trade Credit

Buying goods or services now and paying later

Commercial Bank

Financial institution that provides loans and other financial services

Secured Loan

Loan backed by collateral

Collateral

Valuable asset pledged to secure a loan

Unsecured Loan

Loan not backed by specific assets

Commercial Finance Company

Organization providing loans secured by tangible assets

Bond

Contract through which investors lend money to a company

Stock

Ownership share in a company

Initial Public Offering (IPO)

First sale of a company's stock to the public

Retained Earnings

Profits kept and reinvested in the business

Venture Capital

Investment in new businesses with high growth potential

Accounting

Recording, classifying, summarizing and interpreting financial transactions

Financial Transaction

Event involving the exchange or movement of money or assets

Purposes of Accounting

1. Support Managerial Decisions

2. Inform External Stakeholders

3. Meet Legal Requirements

4. Determine Taxes

5. Evaluate Profitability

6. Support Lending Decisions

7. Guide Investment Decisions

Accounting System

Method used to record and summarize accounting data

Financial Accounting

Accounting that provides information to external users

Managerial Accounting

Accounting that provides information for internal decision-making

Differences Between Accounting Types

1. Financial Accounting - External Users

2. Managerial Accounting - Internal Users

Income Statement

Financial statement showing revenues, expenses and profit or loss over a period

Balance Sheet

Financial statement showing assets, liabilities and owner's equity at a specific date

Cash Flow Statement

Financial statement showing cash inflows and outflows

Accounting Standards

Rules ensuring financial statements are accurate and comparable

Cost Accounting

Measuring and reporting production and operating costs

Tax Accounting

Accounting focused on tax planning and compliance

Auditing

Reviewing and evaluating financial records and statements

Internal Audit

Audit conducted by employees within the organization

Independent Audit

External and unbiased evaluation of financial statements

Accounting Cycle

Process used to record and report financial information

Accounting Cycle Steps

1. Analyze Source Documents

2. Record Transactions in Journals

3. Transfer Entries to Ledger

4. Create Trial Balance

5. Prepare Financial Statements

6. Analyze Financial Statements

Financial Statements

Reports summarizing a company's financial performance and position

Accounting Equation

Assets = Owner's Equity + Liabilities

Assets

Resources owned or controlled by a business

Owner's Equity

Owners' claim on business assets

Liabilities

Financial obligations owed by a business

Elements of Accounting Equation

1. Assets

2. Owner's Equity

3. Liabilities

Fixed Assets

Long-term assets used in business operations

Current Assets

Assets that can be converted into cash within a short period

Accounts Receivable

Money owed to a business by customers

Notes Receivable

Written promises to pay a specified amount

Long-Term Liabilities

Debts due after more than one year

Current Liabilities

Debts due within one year

Accounts Payable

Money a business owes to suppliers

Notes Payable

Written promises to pay creditors

Unearned Revenue

Payment received before delivering goods or services

Shareholder

Owner of shares in a corporation

Dividend

Portion of profit distributed to shareholders

Revenue

Income earned from selling goods and services

Expense

Cost incurred in operating the business

Ratio Analysis

Evaluation of financial performance using financial ratios

Financial Ratio

Calculation used to assess financial condition and performance

Liquidity Ratios

Ratios measuring ability to meet short-term obligations

Leverage Ratios

Ratios measuring use of debt financing

Profitability Ratios

Ratios measuring ability to generate profit

Activity Ratios

Ratios measuring efficiency in using assets

Financial Ratio Categories

1. Liquidity Ratios

2. Leverage Ratios

3. Profitability Ratios

4. Activity Ratios