Acct 1: Week 1- Intro + Financial Statements

Types of Organization Forms

1. Sole proprietorship

2. Partnership

3. Corporation!!!!

Sole proprietorship

business owned/controlled by one person, simple to establish,

• Ex: barber shop, auto shop, small retail store

Partnership

business owned by 2 or more ppl, usually one lack skills/funds

• Ex: professional practices (law, docters, CPAs)

Corporation

business owner by stockholder, separate legal entity from owners, easy to transfer ownership + raise funds

• Focus of this class!!!!!!

Ways to Raise Funds:

1. Debt Financing

2. Equity Financing

Debt Financing

borrowing funds from indivs or entities (creditors); requires funds to be repaid w interest, rigid payment schedule

• Interest paid on debt IS tax deductible

Equity Financing

raising funds through owner investment and selling shares of ownership (stock), dividends not legally required

• Dividends paid to investors are NOT tax deductible

Accounting

means by which we measure and describe the economic activities of a business and communicate these results to interested users

1. Managerial- used by ppl inside

2. Financial!!!!!- used by ppl outside

Managerial Accounting

used by ppl inside the company to make internal decisions

• Ex of Internal Users (Insiders): Management

Questions:

• Enough cash to pay bills?

• How much cost to manufacture unit?

• Can we give employees pay raise?

• Which prod is most profitable?

Financial Accounting!!!!!

used by ppl outside the company to make decisions

Ex of External Users (Outsiders):

• Investors (owners, stockholders)

• Creditors (lenders, bankers)

• Others- taxing authorities (IRA), regulatory agencies (SEC), customers, competitors, analysts

Questions:

• Earning satisfactory income?

• Good investment?

• Compare with competitors?

• Credit risk?

• Repay loan?

Major Financial Statements

how we get info to outside users

1. Balance Sheet (Statement of Financial Position)

2. Income Statement

3. Statement of Owners’ Equity

4. Statement of Cash Flows

GAAP

“Generally Accepted Accounting Principles”; concepts/standards/guidelines/conventions companies are supposed to follow when preparing financial statements

• allows outside users to: make meaningful comparison of financial statements

• makes sure all statements are consistent

Where does GAAP come from?

1. SEC- Securities Exchange Commission: public sector org that allows FASB to create rules + has express authority to enforce rules

2. FASB- Financial Accounting Board Standards: private sector org that creates most accounting rules

Audits

independent; required to safeguard investors and creditors from misleading financial statements; must accompany the financial statements

• will state if statements are fair and comply w GAAP

Flexibile Accounting

make financial statements tell a false/inaccurate story of the company

Reasons Why:

• deceive investors + creditors into providing cash

• management bonuses/compensation tied to performance

• avoid violating debt/loan coveants

• avoid higher tax liability

Annual Report

publicly traded US companies must provide shareholders

includes:

• financial statements

• notes to fin. statements

• independent auditor’s report

• management discussion and analysis (management’s report)

Footnotes/Notes to Financial Statements

explanatory info; clarify the financial statements numbers + provide additional detail; essential to understanding a company’s operating performance + financial position

Auditor’s Report

independent audit report expresses auditor’s opinion as to if financials have been prepared in conformity w GAAP and fairly depict company’s financial position + profitability

Management’s Report/Discussion + Analysis

covers the companies ability to pay near-term obligations, fund operations + expansion, and results of operations

Required to:

• highlight favorable/unfavorable trends

• identify significant events + uncertainties that affect these factors

Balance Sheet

Statement of Financial Position: describes the company’s resources (assets) and the claims against those resources by creditors (liabilities) and owners (equity); at a point in time like specific day

Assets = Liabilities + Equity

Assets

economic resources owned by a business

1. Current

2. Long-term (non-current)

Current Assets

assets expected to either be converted into cash or expire (be used up) within ONE YEAR

• Ex: cash, accounts receivable, inventory, supplies

Account Receivable

represent amounts owed to the company by its customers; business provided service and waiting for customer payment

Inventory

the product the company sells to its customers

Supplies

items USED in the normal course of business

Long-Term Assets

assets that are expected to be used in business operations for longer than one year

1. PPE (property, plant, equipment): physical substance/ tangible

2. Intangibles: lack physical substance

   1. Ex: trademark, patent, copyright

Historical Cost Concept

a GAAP that states: “assets are to be shown on the balance sheet at their cost (the amount which the company paid to acquire them)”

• assets NOT shown at current value + NOT adjusted to current values over time

Liabilities

debts owed by the business; represent creditor claims against the company’s assets

1. Current

2. Long-Term

Current Liabilities

liabilities expected to be paid within ONE year

• Ex: Accounts payable, short-term notes payable, salaries payable, income taxes payable, utilities payable

Accounts Payable

purchased inventory from supplier you pay pay later

Notes Payable

bank loan needed to be paid

Salaries Payable

money to pay to employees who worked

Long-Term Liabilities

debts that will be paid longer than one year

• Ex: Long-Term notes payable (bank loan), mortgage payable (bank loan to finance purchase of property), bonds payable (borrowed money from public)

Equity

the component of the equity section of a balance sheet depend on the type of business organization being used

1. Contributed Capital

2. Retained Earnings

Contributed Capital

“common stock”; represents investments made by owners into the business through the purchase of the organization’s stock

• basically: investment earned from selling stock

Retained Earnings

represents net income (rev-exp) earned by the corporation that is kept within the company for growth and expansion INSTEAD OF being given to stockholders as dividends

• basically: reinvested profits

Income Statement

the financial statement that shows the profitability of the company for a period of time (months, year)

Two items found:

1. Revenues

2. Expenses

Revenues

represent amounts earned during the accounting period (year); result from: sale of merch, services, rental of prop, or lending money

• Ex: Sales rev (selling inventory/prod to customer), Service rev (providing service to customer), Rental rev, Interest rev, Dividend rev

Expenses

costs incurred in the process of earning revenues

• Ex: cost of goods sold (making + purchasing inventory), salaries exp, rent exp, utilities exp, interest exp, advertising exp, income tax exp

Net Income =

Revenues - Expenses

Gross Profit =

profit earned from selling inventory

• = Sales Revenue (quant sold x price) - Cost of Goods Sold (quant sold x cost to purchase good)

Sales Revenue

the selling price of the inventory

• quant sold x price

Cost of Goods Sold

the cost of the inventory sold

• quant sold x cost to purchase good

3: Statement of Owner’s Equity

shows the changes in equity for a period of time (same period covered by income statement)

1. Contributed Capital- investments made by owners into business (selling stock)

2. Retained Earnings- net income not repaid to owners bec reinvested

Dividends

paid by company to stockholder; NOT an expense = NO effect on net income, NO legal requirement for company to pay them / at their discretion

4: Statement of Cash Flows

shows the changes in cash for a period of time (same period covered by income statement)

Provides info abt:

• Cash receipts- inflows

• Cash payments- outflows

Activities categorized as:

• Operating

• Investing

• Financing

Operating Activities

cash inflows and outflows associated with the primary operations of the business; cash effects of transactions that create revenues + expenses and are determined of net income

• Inflows = from customers. Ex: from sale of goods or services

• Outflows = cash payments for expense items. Ex: to suppliers for inventory, to employees for services, to gov for taxes, to lenders for interest

Investing Activities

cash inflows and outflows associated with the purchase or sale of long-term assets such as P-P-E

• Inflows = receive from sale of assets. Ex: selling land/buildings/equipment

• Outflows = pay for purchase of assets. Ex: purchasing land/buildings/equipment

Financing Activities

cash inflows and outflows associated with the sources of funding the business; obtaining cash from stockholders + paying cash to creditors

• Inflows = selling stock (owner’s investing into business) + borrowing money (bank loan)

• Outflows = paying dividends to stockholders + paying creditors for funds borrowed